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QD view – every cloud

A storm is hitting markets as central bankers threaten to raise interest rates to choke off inflation. Growth-focused funds have been hit hard – Scottish Mortgage’s shares are 20% lower than they were a month ago, for example. However, it is not all doom and gloom.

Polar Capital Global Financials Trust is trading at a 2.5% premium to NAV. It has made some modest progress in NAV and share price since we last highlighted it in July 2021. It has continued to expand as well, the market cap is now above £500m.

Banks, which dominate the trust’s portfolio, have had a tough time of it over more than a decade. Interest rates were slashed in the wake of the global financial crisis and cut to the bone again when COVID-19 appeared. That squeezed banks’ margins and a generation of investors wrote them off as poor investments.

The glimmer of a post-COVID recovery that we saw when the vaccines were proven to work in November 2020 was seen as good news for the banking sector. Fears of a swathe of bankruptcies were averted by generous government bailouts. Expectations grew that interest rates would recover to pre-COVID levels.

This was enough to rekindle interest in Polar Capital Global Financials, and that allowed it to re-expand – reversing the effect of a sizable tender offer in the depths of COVID despair.

For the most part, the looked-for interest rate rises did not materialise, however. The Bank of England managed to nudge its official rate from 0.1% to 0.25% in December but there was nothing from the US or the European Central Bank (ECB).

Today, though, the story has moved on. Now the ambition is not just for pre-COVID levels of interest rates but perhaps an eventual return to a more normal, pre-global financial crisis economy.

Inflation is higher and more persistent than most commentators predicted. The labour market is tighter than forecast too, as furloughed workers reinvented their careers and many people decided to retire early or reduce their working hours.

The chairman of the US Federal Reserve, Jay Powell, gave a press conference this week in which he refused to rule out hiking rates after every scheduled meeting (in other words, seven times) this year. This was one reason for the sharp falls in markets this week.

Next week, we could see another rate rise in the UK – to 0.5% seems most likely. The laggard is likely to be the ECB. A more cautious approach to coping with Omicron means that the European economy has not rebounded to the same extent that the US and UK have. Its recovery should come eventually, however. The ECB is saying that it is unlikely to increase rates this year. However, that is already putting pressure on the euro relative to the dollar and the pound, potentially exacerbating Europe’s inflation problem as it drives up the cost of imports.

Polar Capital Global Financials’ portfolio has about 45% in the US, 12% in the UK and 12% in the EU. The management team are optimistic about the trust’s prospects and so are investors.

The trust is running out of room to issue new shares and shareholders will vote next week on increasing the number of shares it can create. The company has also launched a placing of new shares at a 1.5% premium to NAV. We wish it every success.

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