In March, markets were dominated by fears of a trade war. On 1 March, President Trump announced that tariffs were to be levied on imports of steel and aluminium, and on 22 March that import tariffs amounting to USD 50 billion were to be introduced on goods from China. This pushed down bond yields in the US and Europe. In spite of these developments, the Fed, now led by Powell, raised interest rates by 25 basis points in March, as had generally been expected. The Fed also adjusted growth and inflation forecasts upwards; three interest rate hikes are now predicted in 2019.

The ECB left policy interest rates unchanged in March, but it seems to be preparing to scale back its bond-buying programme later this year. In its policy statement, the previously included passage on the option to expand the size and duration of QE was omitted; this was a unanimous decision. During the month several of the ECB members made more monetary expansion-minded comments, which indicates that the highly expansionary monetary policy will be brought to a gradual end.

A general election was held in Italy on 4 March. No single party or coalition obtained a majority of votes, but the results did show gains for populist parties. It will be difficult to form a government without a single party or coalition holding a majority. Negotiations are due to begin in early April. There was better news from Germany: SPD members voted in favour of a coalition together with the CDU/CSU. This means that a large coalition will be formed to govern Germany for the next four years.

Eurozone data was slightly worse than expected again this month. Retail figures in Germany were lower than expected and several leading indicators were down. Current levels remain in line with growth in excess of 2% in the Eurozone, but indicators are pointing to a slight slowdown in growth. US macro-economic indicators were mixed. Job market figures and industrial production were good and economic growth over the fourth quarter was adjusted upwards. Yet inflation is not yet picking up properly and wage growth was lower than expected.

The fear of a trade war and the slight deterioration in economic indicators in the Eurozone pushed down German 10-year government bond yields by 16 basis points to 0.50%. German 2-year and 5-year government bond yields declined by fewer basis points, which generated a flatter yield curve. Our underweight in the portfolio’s duration against the index contributed negatively to the relative performance. Inflation-linked bonds performed slightly less well than nominals.

Our positions in government-related paper lost a couple of basis points in March. Government spreads tightened sharply again in March, especially in the peripheral EU countries. The Spanish spread was boosted by an upgrade of the S&P rating from BBB+ to A-, with a positive outlook. The overweights in Slovenia and Italy also contributed positively, while our underweight in Portugal cost us a couple of basis points. Core country spreads also tightened further in spite of the already tight levels. Our large underweight in France consequently made a negative contribution to the return.

The portfolio continues to be positioned for higher bond yields and tighter spreads, chiefly in peripheral EU countries. Although economic indicators in the Eurozone were slightly worse than expected, they still point to reasonable levels of growth. US indicators remain robust and inflation does seem to be picking up slightly there. Central banks will further taper their stimulatory policies in 2018. Up to and including September 2018, the European Central Bank (ECB) will continue to buy only EUR30 billion per month in bonds, instead of the EUR60 billion it was buying up to last December. The US central bank will probably raise interest rates four times and continue to reduce its balance sheet in 2018.