By Matthew Toms, Investment Analyst at Heartwood Investment Management
Logic dictates that borrowers should pay lenders and not the other way round. However, the world of negative interest rates is defying that logic and investors are increasingly challenged to find value across global fixed income markets when yields are so low. Going forward, the risk is that investors are likely to capture more of the downside in market sell-offs than upside in market rallies, and therefore we anticipate higher levels of bond market volatility.
Managing fixed income in the current environment is more challenging and demands investors stay focused on preserving capital as well as seeking return. Over the last few years, investors could make attractive returns from investing in longer- duration assets as yield curves flattened. However, we believe there is less value to be found by simply taking duration exposure alone, as well as more downside risk.
Yields are unsustainably low
Of course, it would be impossible to determine with any certainty the point at which interest rates will start to rise; for now we remain under the scenario of ‘lower for longer’. However, there are rational reasons to believe that yields at current levels are unsustainable:
- While headline inflation will stay low, deflation threats in developed economies have diminished. The rise in oil prices will feed through into headline inflation in coming months.
- Labour markets are reaching full employment, particularly in the US, and this should put modest upward pressure on wages.
- From a UK perspective, Sterling’s devaluation will ultimately be inflationary, though somewhat offset by lower growth. Further out, a weak currency, large current account deficit, wider fiscal deficit and credit ratings downgrades will be less supportive to UK gilts.
- We have been saying for some time that central banks cannot be solely responsible for stimulating growth and reflating economies. Governments will at some point have to share the load. A large fiscal stimulus package in the form of significantly higher infrastructure spending could spook bond markets and lead to even higher debt levels in developed economies.
- The US treasury market tends to exert a gravitational pull towards other developed sovereign bond markets. When the Fed restarts its tightening programme, currently priced for early 2018, this is likely to push yields higher globally.
It is therefore important that investors are be able to strike the right balance between participating when bond prices are rising and avoiding getting caught out should yields move meaningfully higher, such as during the taper-tantrum episode in mid-2013. It is a difficult conundrum, but we believe the optimal risk/return approach is twofold.
Stay short, but seek higher yielding opportunities
First, we believe it is important to stay fully invested in government bonds on a market weight basis, but in short -duration assets that we would be happy to hold to maturity should interest rates rise. While this position will not always fully participate if bond markets rally, it should help to preserve capital if yields rise sharply.
Second, we are holding a bias towards some higher yielding areas of the credit market. We believe that the current environment is ripe for active investors who are able to cast their net wider and search out value in more esoteric areas of an
$87 trillion global fixed income universe [Source: Bank of International Settlements]. In the post-financial crisis years, banks have retrenched from lending, fueling growth in public debt markets – euro high yield, emerging corporate debt, as well as specialist areas, including infrastructure and peer-to-peer lending. These sectors are less duration sensitive and offer investors a higher yield premium for the credit risk taken (i.e. risk of default). Within our own portfolios, we have been increasing exposure to emerging market sovereign debt and US high yield energy bonds, where valuations look more attractive relative to sovereign bond yields. In addition, we are continuing to seek out yield opportunities in property and infrastructure.
Not company earnings, not data but vaccines now steering investor sentiment
By Marc Jones and Dhara Ranasinghe
LONDON (Reuters) – Forget economic data releases and corporate trading statements — vaccine rollout progress is what fund managers and analysts are watching to gauge which markets may recover quickest from the COVID-19 devastation and to guide their investment decisions.
Consensus is for world economic growth to rebound this year above 5%, while Refinitiv I/B/E/S forecasts that 2021 earnings will expand 38% and 21% in Europe and the United States respectively.
Yet those projections and investment themes hinge almost entirely on how quickly inoculation campaigns progress; new COVID-19 strains and fresh lockdown extensions make official data releases and company profit-loss statements hopelessly out of date for anyone who uses them to guide investment decisions.
“The vaccine race remains the major wild card here. It will shape the outlook and perceptions of global growth leadership in 2021,” said Mark McCormick, head of currency strategy at TD Securities.
“While vaccines could reinforce a more synchronized recovery in the second half (2021), the early numbers reinforce the shifting fundamental between the United States, euro zone and others.”
The question is which country will be first to vaccinate 60%-70% of its population — the threshold generally seen as conferring herd immunity, where factories, bars and hotels can safely reopen. Delays could necessitate more stimulus from governments and central banks.
Patchy vaccine progress has forced some to push back initial estimates of when herd immunity could be reached. Deutsche Bank says late autumn is now more realistic than summer, though it expects the northern hemisphere spring to be a turning point, with 20%-25% of people vaccinated and restrictions slowly being lifted.
But race winners are already becoming evident, above all Israel, where a speedy immunisation campaign has brought a torrent of investment into its markets and pushed the shekel to quarter-century highs.
(Graphic: Vaccinations per 100 people by country, https://fingfx.thomsonreuters.com/gfx/mkt/azgvolalapd/Pasted%20image%201611247476583.png)
SHOT IN THE ARM
Others such as South Africa and Brazil, slower to get off the ground, have been punished by markets.
Britain’s pound meanwhile is at eight-month highs versus the euro which analysts attribute partly to better vaccination prospects; about 5 million people have had their first shot with numbers doubling in the past week.
Shamik Dhar, chief economist at BNY Mellon Investment Management expects double-digit GDP bouncebacks in Britain and the United States but noted sluggish euro zone progress.
“It is harder in the euro zone, the outlook is a bit more cloudy there as it looks like it will take longer to get herd immunity (due to slower vaccine programmes),” he added.
The euro bloc currently lags the likes of Britain and Israel in terms of per capita coverage, leading Germany to extend a hard lockdown until Feb. 14, while France and Netherlands are moving to impose night-time curfews.
Jack Allen-Reynolds, senior European economist at Capital Economics, said the slow vaccine progress and lockdowns had led him to revise down his euro zone 2021 GDP forecasts by a whole percentage point to 4%.
“We assume GDP gets back to pre-pandemic levels around 2022…the general story is that we think the euro zone will recover more slowly than US and UK.”
The United States, which started vaccinating its population last month, is also ahead of most other major economies with its vaccination rollout running at a rate of about 5 per 100.
Deutsche said at current rates 70 million Americans would have been immunised around April, the threshold for protecting the most vulnerable.
Some such as Eric Baurmeister, head of emerging markets fixed income at Morgan Stanley Investment Management, highlight risks to the vaccine trade, noting that markets appear to have more or less priced normality being restored, leaving room for disappointment.
Broadly though the view is that eventually consumers will channel pent-up savings into travel, shopping and entertainment, against a backdrop of abundant stimulus. In the meantime, investors are just trying to capture market moves when lockdowns are eased, said Hans Peterson global head of asset allocation at SEB Investment Management.
“All (market) moves depend now on the lower pace of infections,” Peterson said. “If that reverts, we have to go back to investing in the FAANGS (U.S. tech stocks) for good or for bad.”
(GRAPHIC: Renewed surge in COVID-19 across Europe – https://fingfx.thomsonreuters.com/gfx/mkt/xegvbejqwpq/COVID2101.PNG)
(Reporting by Dhara Ranasinghe and Marc Jones; Additional reporting by Karin Strohecker; Writing by Sujata Rao; Editing by Hugh Lawson)
BlackRock to add bitcoin as eligible investment to two funds
By David Randall
(Reuters) – BlackRock Inc, the world’s largest asset manager, is adding bitcoin futures as an eligible investment to two funds, a company filing showed.
The company said it could use bitcoin derivatives for its funds BlackRock Strategic Income Opportunities and BlackRock Global Allocation Fund Inc.
The funds will invest only in cash-settled bitcoin futures traded on commodity exchanges registered with the Commodity Futures Trading Commission, the company said in a filing to the Securities and Exchange Commission on Wednesday.
A BlackRock representative declined to comment beyond the filings when contacted by Reuters.
Earlier this month, Bitcoin, the world’s most popular cryptocurrency, hit a record high of $40,000, rallying more than 900% from a low in March and having only just breached $20,000 in mid-December.
Bitcoin tumbled 10.6% in midday U.S. trading Thursday.
Other U.S.-based asset managers will likely follow BlackRock’s lead and add exposure to bitcoin in some form to their go-anywhere or macro strategies as the cryptocurrency market becomes more liquid and developed, said Todd Rosenbluth, director of mutual fund research at CFRA.
“It’s easy to see how strong the performance has been of late and look at a historical asset allocation strategy that would have included a slice of crypto and how returns would have been enhanced as a result,” he said. “Large institutional investors are going to be able to tap into the futures market in a way that a retail investor could not do.”
There is currently no U.S.-based exchange-traded fund that owns bitcoin, limiting the ability of most fund managers to own the cryptocurrency in their portfolios.
BlackRock Chief Executive Officer Larry Fink had said at the Council of Foreign Relations in December that bitcoin is seeing giant moves every day and could possibly evolve into a global market. (https://bit.ly/2XXFHrB)
(Reporting by David Randall; Additional reporting by Radhika Anilkumar and Bhargav Acharya in Bengaluru; Editing by Arun Koyyur and Lisa Shumaker)
Bitcoin slumps 10% as pullback from record continues
LONDON (Reuters) – Bitcoin slumped 10% on Thursday to a 10-day low of $31,977 as the world’s most popular cryptocurrency continued to retreat from the $42,000 record high hit on Jan. 8.
The pullback came amid growing concerns that bitcoin is one of a number of financial bubbles threatening the overall stability of global markets.
Fears that U.S. President Joe Biden’s administration could attempt to regulate cryptocurrencies have also weighed, traders said.
(Reporting by Julien Ponthus; editing by Tom Wilson)
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