Legal & General Investment Chief Bets on UK Recession

The UK’s biggest asset manager is buying bonds and selling stocks in preparation for an “significant” downturn. He warns that the Bank of England may be forced to push the economy into recession despite signs of a cooling of inflation.

Sonja Laud is the chief investment officer of Legal & General Investment Management. The company manages £1.3tn in assets. She said that this week’s drop in inflation did not mean the UK could avoid a recession.

In an interview, she said: “It is a relief that the inflation rate in the UK has been lower than expected. But if you take a look at the real number, it’s still high. We should not forget this.” “We are certain that higher interest rates will slow the economy down because otherwise inflation won’t fall enough for central banks not to keep their foot on the pedal.”

Data released on Wednesday revealed that the UK’s annual rate of inflation fell to a 15 month low last month of 7.9 percent, causing relief on the markets following a run of four months of unanticipatedly high prices. The BoE is still far behind other international counterparts when it comes to bringing inflation to the 2 percent target. US consumer prices rose at an annual rate 3 percent in June, according figures released earlier this month. Eurozone inflation is at 5.5 percent.

Laud said that she was preparing for a UK downturn as part of an overall global recession, which includes the US where a sharp drop in inflation has led to widespread predictions of “soft landings” for the US economy. She said that the UK housing market was especially vulnerable to rising interest rates, as increases in BoE rate are passed on to mortgage borrowers.

Laud believes that fixed income will benefit from the renewed desire for safety.

She said that when inflationary concerns dominate the narrative, there is a positive correlation between bond and equity. But when growth dominates, you get a negative correlation. In a recession, we expect bonds to work the same way they have always done. Laud, citing the recent dramatic downgrading of UK government debt, said that she “likes” gilts and her firm has been purchasing them recently. However, Laud warned that they are more appealing to investors based outside the UK.

She said that the attractiveness of gilts is dependent on whether or not you need to hedge your currency. If you’re not in the UK, and have to hedge the currency, it may not be as attractive.

While gilts led this week’s rally on the bond market, sterling is down 1.7% against the dollar since its Tuesday peak.

Laud’s remarks echo a trend where domestic investors are turning to gilts for higher yields. Meanwhile, big international investors were more cautious due to the country’s large inflation problem and uncertain policies outlook.

BNY Mellon figures, which hold about a fifth (£13,4bn) of all financial assets in the world, show that net inflows for UK 10-year bonds have been £13,4bn this year. The majority are gilts. Meanwhile, cross-border transactions saw a net outflow of £6bn.

Laud stated that political uncertainty in the UK has deterred investors from investing. Questions about how post-Brexit trade flows will affect the relationship between the UK and the EU have led some investors to hold off on making any investments until more clarity is provided.

LGIM, the UK’s biggest defined contribution pension provider is preparing to implement Jeremy Hunt’s plan to invest 5% of pension funds in unlisted equities before 2030. Laud stated that this would be “helpful”, in an attempt to revive the UK stock market. However, she would like to “see an approach which covers all other aspects”.

She said, “We could definitely do more in the beginning to provide financing, but we also need to ensure that we create the right environment to allow these companies to grow and stay. We must have the right tech support structures, the correct labour markets — before a firm decides on where to list, we should consider the entire framework.”