“Recent days have seen a rapid move higher in government bond yields in the US, the UK and in the core markets of the Euro Area. We believe that this move could mark the beginning of a normalisation of bond yields that will ultimately see levels similar to those that prevailed before the onset of the acute phase of the European debt crisis in 2011.
“What does this mean for bond investors? For those exposed to a lot of interest rate risk it is clearly a negative for marked to market valuations of fixed income portfolios. As yields rise, prices fall. To mitigate this risk our preference is to have exposure to corporate credit risk. If government bond yields are rising because of better economic conditions, this is clearly positive for companies and for the pricing of corporate debt. So an offset to higher bond yields will be narrower credit spreads.
“In addition, we suggest short duration strategies – keeping exposure to corporate credit in exposure to maturities at the short dated end of the yield curve – below 5-years. This part of the market will not suffer as much from changes in longer term yields but will provide investors with an income yield well above that available in government bonds or in cash. At AXA IM we have a number of short duration funds as well as funds that have a reduced duration share class (Redex). This allows investors to get access to attractive inflation or credit risk premiums at the same time as limiting their exposure to higher yields.
“The recent rise in bond yields may prove to be temporary - a short term response to the easing of risk in Europe. However, it is more likely that we are currently seeing the normalisation of the structure of risk-free bond yields. The risk profile in the interest rate outlook is not symmetric given how low rates have been. Investors should look to prepare for this inevitable development in global bond markets.”
|
