Cash Smart Performance and Projected Yields* Update (February 2022)

Note: As of Nov'21, Endowus Cash Smart Core is now referred to as Endowus Cash Smart Secure. There are no changes in the underlying investment offerings.

• Unprecedented Headwinds: There are multiple headwinds to the fixed income and Cash Smart products. Rising market interest rates driven by tightening central banks hit performance, Asian(China) credit selldown continues to weigh on returns. And now added to that is heightening geopolitical risks in Ukraine. The continued correction in the overall fixed income markets has led to a longer albeit shallower, period of negative returns. This stretch has been longer than that seen in March 2020 driven by the onset of Covid. ‍
• Performance Update: The Cash Smart Secure product posted a return of 0.06% in January, in line with its consistent positive return rally since launch. The prevailing market conditions, however, were harsher for Cash Smart Enhanced and Cash Smart Ultra solutions, which fell -0.16% and -0.53% respectively, reversing the positive returns in December. ‍
• Yield & Risk Tradeoff: The various Cash Smart solutions calculate projected yields based on yield numbers published by the fund management companies as a guide for investors. However, these investment solutions are exposed to volatility and periods of negative returns in varying degrees, as the portion of fixed income in the portfolio increases in the Cash Smart Enhanced and Ultra solutions with corresponding exposure to interest rate and credit risk.

Performance Update

Cash Smart Secure, in line with its objective and expectations, has posted another month of positive returns despite the market turbulence in January and is on track to continue to generate its return targets. On the other hand, extremely hostile market conditions were prevalent in January with the short duration funds falling faster during January with sharp rise in yields for 2 year treasuries and a flattening of the yield curve. This was caused by the continued upside surprise in monthly inflation numbers and the move towards a more hawkish scenario for the Fed’s tightening cycle with markets now expecting as much as six to seven rate hikes this year versus just one or two in December. After showing positive returns in December, both Cash Smart Enhanced and Ultra renewed its decline in January following the sharp falls across the board in all fixed income markets and 100% fixed income portfolios. 

The table below shows the monthly and overall performance (both actual and annualised) of the three portfolios since August 2021, in the past 6 months.

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‍Endowus Portfolios have moved according to their target risk

Correlations are consistent both during times of positive and negative fixed income returns. We have looked at the recent volatility and examined how the five broad fixed income products have performed in different periods to see if that relationship exists in the Endowus products. These Endowus products consist of the three Cash Smart products, the newly introduced Low Volatility Fixed Income (that replaces the old UDP model portfolio) and the 100% Flagship Fixed Income portfolios. 

We stripped out four distinct periods of up and down markets in the fixed income market in the past year. The first was a falling period of a month or so in early 2021. Then the market rebounded and we saw a sustained rally from April to September. We also saw a correction from September to November before the one-month recovery in December. Throughout these four periods, the above chart clearly shows that the correlation between risk and return have played out just as one would expect. The 100% Flagship showed the highest returns in any up market, and the biggest falls during downturns. Meanwhile, the safest Cash Smart Secure generated a stable but low return throughout. The remaining portfolios are a sliding scale of risk and returns. 

If you were a Cash Smart Ultra investor between April to September, you would be very happy as the Cash Smart Ultra generated returns of 1.25% in a period of under six months. If you had started your investment only in September, then unfortunately you would have experienced the period of negative returns without the accompanying positive returns in the earlier months. And if you had started investing in November at the lows, then Ultra would be up 0.46% in just one month. However, as with all investments, we cannot time these things and we know that just as there are investors who used Ultra to great benefit and good returns in the past, there are many others who are suffering from losses as seen in the low volatility fixed income and the 100% fixed income Flagship portfolios in recent months. On the other hand, investors who are currently in the Cash Smart Secure product would have felt most assured and content with their stable and secure returns month in and month out.  

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Endowus Cash Smart products focus on money market instruments or the short-end of the yield curve, which have ultra-short or short durations. This characteristic makes them more defensive than conventional fixed income products with longer durations, especially in an environment of rising interest rates and falling bond prices. However, fixed income instruments are still exposed to market volatility. The fall in September to November, while meaningful and sharp, was still much less in terms of magnitude than the massive sell-off in March 2020. ‍

Diversification buffers drop in Asian High Yield

‍One of the notable things about the Cash Smart Ultra portfolio is the greater number of funds included compared with the other Cash Smart solutions. The wide range of funds that make up the Ultra product were chosen for their varying degree of exposure to duration (interest rate) risk, credit risk (tradeoff between yield and chance of default), as well as diversification in terms of geographical exposure. 

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So far this year, the biggest detractor to the performance of Cash Smart Ultra, relative to the other underlying funds, has been the Nikko Shenton Income Fund. While the diversification towards multiple underlying funds helped, the 12.5% allocation to the Nikko Shenton Income Fund created a performance drag. Generally, any fund with exposure to China, the property sector, and Asian credit/high yield would have seen a meaningful decline and this has been the major factor in the divergence of returns. In fact, apart from this fund, the rest of the portfolio has been relatively resilient. 

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We have created a chart to show the impact of high yield and Asian credit on recent performance. This chart shows how the overall Cash Smart Ultra portfolio moved versus the Nikko Shenton Income Fund, and how the Bloomberg Global Aggregate Index performed versus the iBoxx Asia ex Japan High Yield Total Return Index. You can clearly see that there is a correlation between the Asia High Yield index and the Nikko Shenton Index due to its high exposure to Asia credit with some high yield exposure and especially as an Asian bond fund, its exposure to China credit. However, the move is much more muted for the Nikko Shenton Income Fund. 

In January, we saw not only a further decline in Asian High Yield, we have been heavily impacted by the other short duration funds across the board as inflation rates continue to surprise and the markets heavily sold off government bonds and corporate investment grade as well as high yield bonds across the board especially as short term market rates surged during the month. 

‍Macro & Market Update

Inflation remains stubborn, and Fed Chair Jerome Powell warned investors of more potential upside surprises as it’s forecast to continue over the first half of the year – consumer price inflation recorded a 7% increase year-on-year in December, which is the highest since 1982 and remains stubbornly high. Amid the ongoing plans for the Fed to tackle inflation by adopting tapering and interest rate hike measures that are more aggressive and faster than they have historically been, Powell also hinted that a hike in March is extremely likely, and some traders are even betting for an odd of 50 basis-point hike. Overall the market has now shifted to six or seven rate hikes from just one or two in early December which is an unprecedented shift in market expectations that has hit all fixed income sectors. As a result, bond yields have escalated across all sectors including government and corporate bonds, while investors seek refuge in relatively safer, shorter-duration instruments.

Meanwhile, the news of some 100,000 Russian troops deploying themselves near the Ukrainian border has raised an alarm for investors worldwide, as they brace themselves for the potential invasion of Russia as it had previously happened in 2014. Both equities and fixed income suffered investor flight in the earlier part of January, and while sentiments have recovered slightly by the end of the month, uncertainty remains in the market. As always, investors should choose investments that reflect and suit their risk appetite.

Cash Smart Projected Yield Update

While the Fed’s hawkish stance and the rising interest rate environment are putting pressure on the value of fixed income instruments globally, there still remains a silver lining in the form of yields.

In the medium-to-long term, rising interest rates allow for funds from maturing bonds to be reinvested at a higher rate than before, and will lead to a gradual increase in projected yield. This is the reason for the new revised projected yields creeping up slightly across the different Cash Smart solutions in recent months despite the tough performances we have seen and it is somewhat related also to the lower prices and the fixed coupons of the underlying bonds. The yield range this month remains the same. 

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Note: As of December 2021, Endowus Cash Smart Core is now referred to as Endowus Cash Smart Secure. There are no changes in the underlying investment offerings.

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