Esoteric bond market
John O’Toole, multi-asset investor at Amundi, says the problem with owning bonds for defensive purposes in portfolios runs deeper than just the present levels of yield or inflation risks.
He says the lesson of recent years is that government bonds, even those in developed markets, have become “a volatile asset class”, with prices gyrating sharply in response to world events. O’Toole says this reduces the appeal of government bonds as a diversifier, and adds that corporate bonds tend to have higher correlation with equities.
The fund manager says investors seeking to own bonds are now required to either take more credit risk or “do more esoteric things than in the past, such as owning, for example, emerging market debt or high-yield bonds”.
McIntosh-Whyte is another multi-asset investor looking to somewhat more esoteric parts of the bond market right now.
He says that instead of the government bonds of the UK and US, which may have been in portfolios historically, he is looking to invest in the debt of Canada and Australia right now.
This is because those countries are commodity exporters and so would expect to do well in a world of higher inflation. If those currencies rise in value relative to sterling, then the real spending power of the income rises, as there is a benefit from the currency movements.
He has also looked at emerging markets, where there is a potential for capital gains. This is because many emerging market economies have put rates up already, and their next move may be to cut rates. In that situation one could receive quite a high yield now, but also potentially a capital gain if emerging market economies cut rates during the period prior to the bonds maturing.
Emerging market economies could cut rates if the global economy takes a downturn, and particularly if, having put rates up to curb inflation, developed market economies subsequently loosen monetary policy to stimulate growth.
Central to the bear case for bonds right now is that, whatever the economic outlook, a decade of central bank policies made the asset class very expensive, and as such policies unwind, prices will fall and yields will rise.
But Tony Carter, multi-asset investor at Sarasin and Partners, says that longer-term and more profound factors than just monetary policy are behind the bull market that bond investors have enjoyed for most of the past 40 years.
He says ageing populations spending less and saving more – creating a savings glut whereby a significant portion of the capital ends up in the bond market – the impact of technological change, and the globalisation of trade, mean inflation will be structurally lower over the long term than has been the case in the past. Consequently he says bond yields will be lower, and prices higher.
