Exploring opportunities and risks in fixed income markets (2024)

We delve a bit deeper in our second mini interview with Kevin Zhao (Head of Global Sovereign and Currency, Fixed Income) to find out what he believes the impact of low interest rates will be on fixed income investments. He also discusses where the pockets of opportunity can be found.

Watch this space for the next in this series of interviews with Kevin on global flexible fixed income insights.

Q: Where do you see the best opportunities in fixed income markets globally in 2020?

A:For 2020, we are focused on relative values and monetary policy changes outside of the G7 as we believe that the Fed, ECB and BoJ are likely to keep policy unchanged for the next few months at the least. However, we think that central banks in Canada, Australia and New Zealand are more likely to cut rates in the developed world. At the same time we see ample opportunities in some emerging markets where growth and inflationary pressures have been weak and their central banks still have plenty of room to cut rates. Examples include Mexico, China and to a lesser extent in South Africa, Russia, India and Turkey. We have recently moved some of our holdings from investment grade corporates to investment grade securitized bonds in the US. Spreads are slightly wider for similar ratings, while sensitivity to a recession or rising defaults is lower.

Q: What are the main risks for fixed income investors and how are you positioned to hedge them?

A:If developed market economic growth in 2020 proves higher than consensus, then this might pose a challenge for fixed income investors. For example, an unexpected and significant fiscal stimulus or higher wages and inflation could push bond yields higher, resulting in negative total returns for index-based bond investors. We believe that the most effective hedge is to own at least some inflation linked bonds and to under-weight countries where fiscal policies are turning very simulative. The spreading of coronavirus has made any material upside surprise in global growth very unlikely for 2020, though possible for 2021 if we will see coordinated global policy reflation.

There are also downside risks to the global economy; for example an unexpected recession in the US or certain outcomes in the November election. And recent events demonstrate that there are risks posed by more left-field events such as a renewed trade war, escalation of Middle East tensions or disruption to travel. In these more extreme events the best hedges may be 30 year US Treasuries and bonds issued by countries with limited scope for fiscal expansion, for example New Zealand.

Over the past few weeks, the coronavirus has spread significantly to many other countries especially in a few areas such as South Korea and Northern Italy that are major parts of global supply chains. This has led to significant downside risk to the near term global growth, but more importantly has unleashed significant market reaction, resulting in falling equity markets and EM assets which may in turn tighten financial conditions and worsen further business confidence.