The fund that is betting that quantitative easing won’t work

When Artemis Strategic Assets launched in May 2009 in the wake of the financial crisis it struck me as the ideal fund for the time. Its objective is to provide longer term positive returns under most market conditions, but it is the way that it goes about it that caught my eye.

Right from the outset the manager, William Littlewood, has maintained a large short position in government bonds. At the end of April 2015 these were equivalent to 96.3% of the NAV of the fund. This means that if the yields were to go up by 1%, the value of the fund would increase by almost 10%.

The reason that Littlewood has done this is because he thinks that the central bank’s policy of quantitative easing (QE), which he describes as printing money, won’t work and that a tipping point for the bond markets is sure to come.

He says that bond yields are ridiculously low compared to inflation and in any historical context. In many countries the government bonds actually have negative yields, which means that investors have to pay for the privilege of lending to their governments.

A recent report from Bank of America Merrill Lynch shows that as a result of the policy of QE, central bank assets now exceed $22.5 trillion, which is more than the combined GDP of the US and Japan. An amazing $4.1 trillion of global debt yields less than 0%.

Littlewood’s biggest short position is in Japanese government bonds, with an exposure equivalent to 58.9% of the fund’s NAV. He says that this is because the country has the highest debt to GDP ratio and the worst demographics, which makes it almost impossible for them to get out of this difficult situation without printing more money courtesy of further QE.

The other main shorts are in French, Italian and UK government bonds. Italian government spending as a proportion of GDP has been creeping steadily higher since the early 2000s and now stands at 55%, while the comparable figure in the UK is 43%.

For the most part it has not been a profitable position as government bond yields have fallen for much of the period that Artemis Strategic Assets has been in existence. In 2014 they actually cost investors 9% of the fund’s NAV, which is one reason why it has been a fourth quartile performer in the Flexible Investment sector, but it seems as though things might be about to change.

Core government bond prices have recently started to fall quite significantly. From the middle of April to the 8^th May, the German 30-year Bund dropped by 15%, while long-dated US and UK government bonds were down 7% and 5% respectively over the same period. This suggests that inflation expectations are starting to rise.

Littlewood says that QE has never worked and that central bankers will eventually lose control of their markets. If he is right, Artemis Strategic Assets might be one of the few funds on the market that would benefit.