Markets have been particularly volatile so far this year and I believe this is a theme for the foreseeable future.

America has been ‘on the brink’ of a default for the last week. This may seem ridiculous if you consider that America’s Federal Reserve can print its own money so any bill that comes due is very simply paid. The reason for this potential default is political. The US political system seems complicated to me. On the one hand you have a Democrat Leader that was voted into power but that power is shared with Congress which is Republican. They seem to vehemently disagree on how to manage the now huge £14.3 trillion debt. The Republicans are keen to start an austerity package which essentially reduces the size of the state whereas the Democrats believe that you cannot cut quicky and any overall debt reduction should include tax increases (certain parallels can be drawn from the arguments between Labour and Conservative). The Republicans are using the fact that the debt ceiling increase needs to be agreed as leverage to get their views on how to reduce the debt heard. At this point in time the leaders of the opposing parties seem to have come to an agreement in principle but this must now been voted on by the rank and file. I am sure that this new agreement will be passed and the debt ceiling raised which will, I imagine, have positive effects on the market.

But there are still major concerns in the markets not least America but also within Europe and the UK seems to be slowing again. Inflation is high in the developing world and both China and India have been increasing interest rates to kerb unsustainable growth with the concerns over inflation. On the positive side Company Earnings (profits) have been breaking records and the net cash position has never been better adding to speculation of Merger & Acquisition activity. Assuming the banking system can hold together there are many reasons to be positive with growth coming from the huge populations across the developing world that now have the money to buy what we in the west take for granted.

What has this all meant for our Portfolios?

All our Portfolios have protection in the form of Gold and Inflation Linked Gilts which have done well in the current environment. Some bond funds have benefitted with the recent flight to safety (for which we are underweight) and equity markets have been flat at best. But the wide diversifications across our portfolios that include Absolute/Total return funds have generally done what has been expected. Barings Absolute Return Global Bond funds recent performance has been poor but the underlying assets are linked to a weakening Euro and a weakening Yen. Many independent analysts believe, like me, that this is something that will play out longer term thus I am comfortable with its underperformance in the short term but assure our clients that this is one fund that is ‘on watch’.

Period Ending 1st August 2011