Traditionally, bonds are meant to be like the reliable designated driver. Safe and dependable. But even bond managers would admit that bonds have not done their job in recent times.
And Central banks like it that way (somewhat understandable given the GFC/pandemic).
For the best part of the last decade, policymakers have sought to make bonds so expensive that investors felt forced to abandon the asset class and send capital into areas that offered better investment returns (in terms of economic activity). The success of this approach came at the expense of bonds’ reputation and ability to deliver on the attributes that got them a guernsey in a balanced fund, to begin with, namely:
· Liquidity – not always
· Decent income – not for years
· Price stability - nope
· Diversification (negative correlation to equities) – unfortunately not
The good news now is that bond yields are being allowed to return to being determined by the market, and not the technocrats. Most factors crucial to the prospects for bonds are in a heightened state of change right now including economic growth, inflation, banking systems, and central bank policy.
“Inflection points are notoriously hard to identify but there are several reasons why we believe interest rates have largely completed their normalisation journey. Thereby making bonds an attractive asset class once again,” says Bill Bovingdon, Chief Investment Officer, Altius Asset Management.
Globally, Central banks have been acting to dampen economic growth to ease capacity constraints and prevent inflation expectations from rising. Demand for credit can be expected to fall as a result, which is just as well given the recent failure of SVB which prompted a tightening of credit standards. At a policy level, this determination to induce a further slowdown gives us cause to believe that the cycle will be short and sharp, with the bulk of cash rate rises already behind us.
“Inflation is falling globally albeit from very high to uncomfortably high levels. A trend away from globalisation to build more resilience in supply chains has been clearly established and is unlikely to reverse given heightened political risk, health/environmental disruption and the upheaval to global economies meeting the challenge of decarbonisation. This is likely to keep inflation above long-term targets and longer bond yields elevated unless growth slows precipitously,” says Bill.
A higher base for interest rates, bond yields that are free to respond to market assessments for growth and inflation, steeper yield curves and relatively wide margins for non-government credit risk are all supportive elements for active bond strategies like those employed in our funds.
So all in all, it is good news to see that bonds are back.
Altius is a specialist Australian fixed-income manager, with a market-leading reputation for ESG analysis and investing for Sustainability. Our strategies target multiple sources of outperformance, such as investing in non-government credit (with sector rotation), as well as actively managing duration and yield curve settings. The information provided above is general information only, is not intended to be relied upon as financial product advice and does not take into account the objectives, financial situation or needs of any particular investor.
Bill Bovingdon
Chief Investment Officer, Altius Asset Management.