One legacy of the financial crisis is that multi-asset investors own far less bonds than in the past, but this is likely to change due to higher rates, according to Steve Ellis, chief investment officer at Fidelity International.
Ellis said: “Before 2008, non-bank investors tended to hold less than a fifth of their portfolios overall in equities.
Since 2009, the opposite has been the case, and in 2020 and 2021 that number was more like a quarter. The sharp sell-off in bond assets this year as central banks drove the adjustment in yields has only exacerbated that position. That should leave a lot of scope for investors to add to bond allocations from here and derive greater diversification benefits across portfolios."
He added: “The dynamics between equity and bond returns have shifted. Equity dividend plays had been one of the standard places to hide in the low-yield environment. But the impact of inflation, higher rates, and a probable hard landing for developed markets on earnings undermines that. With 10-year US Treasuries above 4 per cent and investment grade corporate bonds offering 6 per cent, investors can now buy yields akin to the dividends offered by big multinationals and without the same kind of risks - provided countries and companies don’t default.”
Henry Cobbe, head of research at Elston, said there may be limited scope for bond prices to rise from here, despite recent market events.
He said: “Bonds don’t bounce – necessarily. Gilts would return to December 2021 levels if interest rates and inflation rates returned to December 2021 levels. And that looks unlikely as even once we get past peak inflation expectations, inflation may settle at a higher level than pre-Covid, owing to supply-chain issues, energy transition and deglobalisation.”
In terms of where he is finding value in fixed income markets right now, Cobbe said: “At present short-dated bonds – both in GBP and moreso in USD look attractive. Short-dated because yields are interesting without the need to take too much duration risk. Why dollar? It can help against supply-side - dollar/energy - inflation.
"Conventional wisdom is not to have too much “foreign” currency risk. That may be relevant for currency-matched liability-matched pensions strategies. But it’s a choice for less constrained portfolio investors, and we see weaker domestic sterling as importing both inflation, and currency risk, so a careful look at currency risk is key.”
david.thorpe@ft.com
