Infrastructure, property & the Fed

You would have seen our earlier note on a DAA change; for the most part, it simply reflects improved valuations across certain asset classes.

We think infrastructure is a reasonable inflation hedge, given regulated returns reset with higher inflation expectations (in other words, the permitted return moves higher, so the effect of inflation is broadly neutral) however in the lead in to Jackson Hole, the infrastructure space seemed simply disconnected to the movements we were seeing in other assets classes.

After all, listed infrastructure is still equities. So we sold some.

Now, we are buying that back. It is very possible that we are adding back “too soon”. However, we are fairly constructive on the drivers of infrastructure over the next few years (the inflation reduction act has enormous amounts allocated for the renewable-adjacent electrification of the grid) and are happy with assets that can give us exposure to this thematic.

We are also adding a small amount to our property exposures. Everybody “knows” that property is long duration and struggles when real yields rise. We agree, that’s why we were underweight. However, the sector has sold off quite dramatically, unwinding much of the pandemic gains, and as such buying a small amount is fairly consistent with our DAA objectives. We can’t know if this is the bottom, but if an asset class drops by a quarter we are going to be interested, at the margin.

Property remains a scarce asset, rents have grown across commercial property, gearing is not too high compared to REITs in the GFC, and those rents, for the most part, all have some CPI passthroughs (rents are usually struck in reference to CPI).

Fed whispers

On Friday, US markets were up strongly because a favoured journalist seemed to share information that shed light (in a positive way) on the stance of policy.

More Fed members are suggesting that enough has been done, that after the November meeting (75bps expected) the conversation can be framed about stepping down to 50 (or perhaps even lower) and waiting.

This is close to the idea of “dovish pivot”, but I think we can just call it the “prudent pause”, and although there’s nothing “especially new” in any of the above, it is the case that the market is seeking to “latch on” to supportive commentary.

Our Balanced portfolio is sitting at around 56-57% growth versus defensive assets. Normally, we aim for about 60%, so our “moderately defensive” positioning is getting closer to just our normal stance, neither especially bullish nor bearish. Our other portfolios are similarly positioned.

If equity markets continue to underperform, we would expect to move overweight, selling cash further down, and likely utilising our alternative assets as the main funding vehicle of choice. We don’t want to sell down the bond portfolio, in general, at yields of c4%, given our expectation of an (eventual!) return to a negative correlation between stocks and bonds.

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