Macro and Market Review
Volatility returned with a vengeance in April across assets as the US administration's Liberation Day tariff announcements sent markets reeling. The whipsaw in policy announcements that followed saw huge market moves in both directions as uncertainty rocketed and trade-related headlines drove sentiment. Despite the early April shock, policy walk-backs and a softening tone from the US government saw spreads recover from the wides, leaving total returns for the month flat in both US IG and HY and moderately positive in EUR corporates and treasuries, supported by the Euro duration component. Sector performance was clearly a function of tariff exposure, with import-heavy US sectors such as basic industry and consumer retailers hit hardest.The breadth and magnitude of the tariffs implemented on 2 April cannot be understated, taking national tariff levels to century-highs and threatening to completely upend the fabric of global trade. Of equal concern was confusion around the way in which the tariffs had been calculated. The new tariffs were headlined as being 'reciprocal' but in reality showed little relation with actual tariff levels currently levied on the US, making it hard to decipher how progress could be made on any potential reductions. The uncertainty generated by the economic upheaval sent risk assets spiralling, with the S&P falling 10% in just two sessions, taking the total sell-off into bear-market territory. Credit markets were somewhat better behaved but still saw US and EUR HY spreads widening by 120 bps and 110 bps, respectively - to the highest levels in two years.The initial reaction in rates markets was in line with that of a growth shock, as cuts were priced in and term premia shrank, with yields falling across the curve. However, this reversed and actually pushed yields higher as concerns shifted to a potential mass reduction in US asset holdings from abroad. The mixture of risk assets falling, currency depreciating and yields pushing higher is a familiar sight in Emerging Market economies facing balance sheet crises and mass capital flight, but not in the world's biggest economy and reserve currency. Ultimately, it was a sharp move higher in yields in Asian hours on 9 April that threatened financial stability and coincided with a U-turn from the Trump administration. A single social media post saw tariffs reduced universally to 10% for an initial three-month period, from the exceptionally high levels presented a week earlier. This resulted in a huge reversal in risk asset flows, with US stocks posting their largest intraday gains in decades.The one exception to the tariff reduction was China. As the only nation to retaliate to the Liberation Day announcements, levies there eventually rose to 145%, effectively halting all trade between the nations. These levels are not sustainable, as has been highlighted even by US government officials, but remain in place as of writing. The longer these levies remain, the worse the economic scarring will be. That said, the U-turn was sufficient to stem the market rout and ease volatility, setting the base for risk assets to recover through the remainder of the month. Further key support came from a softening in trade rhetoric, showing more appetite for bilateral deals. Another risk was removed as Trump confirmed that he wouldn't look to fire Fed Chair Powell despite sharp criticism of his unwillingness to cut interest rates. Concerns around Powell's potential removal had been haunting risk assets and long-end treasuries for some time. While the news flow from US policy and its impact on sentiment drove markets for the month, fundamental data did produce some interesting points. US growth for Q1 came in lower than expected at -0.3% QoQ, the first negative quarter since 2022, driven by a sharp increase in imports ahead of tariff implementation. Labour market data remained robust though, affirming the Fed's stance that further rate cuts aren't needed imminently, particularly with the inflationary impact of tariffs a looming unknown. The ECB, on the other hand, with fewer pressing inflation issues to hold it back, continued to respond to soft growth with a further cut, but also highlighted uncertainty around trade-induced growth/price impacts moving forward. Similarly, in Switzerland, with inflation softening, the case for lower rates has surfaced once more, and a June cut now seems quite likely.
Portfolio activity
In the CHF-denominated primary market, we did not participate in any new issues. In the CHF secondary market, we bought some Kantonsspital Baden (KSBAAR) and sold some Liechtensteinische Landesbank (LLBSW).In terms of sector allocation, we are overweight mainly in Banking & Financial Services and Utilities, while underweight mainly in Treasuries and Covered Bonds. In terms of duration, we are broadly in line to slightly long versus the benchmark.
Performance
In the absolutely seismic month of April, the yields on Confederation bonds declined significantly by around 20 bps to 25 bps across all maturities, with the yield curve experiencing some flattening.During the same period, CHF credit spreads widened considerably in the A-BBB rating bucket between 13 and 22 bps, while the widening was more moderate in the AAA-AA rating bucket at between 3 and 6 bps.At the sector level, Utilities underperformed as spreads widened by 17 bps, while Financials and Industrials both widened by 13 bps.In this environment, the total return for both the LO Funds (CH)-Swiss Franc High Grade Bond and its benchmark, the SBI® AAA-AA, was strongly positive, as the rate move more than offset the negative impact of credit spread widening.In this market environment, the Fund underperformed its benchmark due to both our sector allocation and security selection more than offsetting the positive contribution from our yield curve positioning.Year-to-date, both total and relative returns for the LO Funds (CH)-Swiss Franc High Grade Bond are negative.
Outlook
Clearly, the ramifications of April's vast policy shifts will take time to filter through to hard data and corporate fundamentals, but the ultimate outcome of the debacle is likely to be a sizable growth hit to the US and globally, with a heightened stagflation risk in the former as tariff price increases are passed through to consumers. The impact at the corporate level is likely to affect margins more than creditworthiness, and hence may well be more important for equities than credit in the short to medium term. Nevertheless, the environment calls for caution, but the sharp policy shifts seen mid-month might underline the danger of reducing risk at inopportune moments in such markets. Remaining invested but defensive in credit, as particularly well characterised by the Swiss bond market, remains our view, particularly now with spreads at more elevated levels. We also still prefer duration, as we envisage central banks focusing on growth and labour markets as priorities if conditions worsen, with inflation shocks likely to be more short-term in such a scenario.
