Strategic Fixed Income: concoction of stress factors
6 minute watch
An unhealthy concoction of factors are creating a classically late-cycle feel in the markets. In a challenging time for bond managers, John Pattullo, Co-Head of Strategic Fixed Income, simplifies the conundrums and shares his views.
- While secular trends have remained entrenched, the last two years have been characterised by a reflation trade, primarily driven by China reflating the world in 2015-16
- There is a divergence in equity markets – US growth equities versus European value
- There is a clear contradiction in the narratives from the bond and equity markets
- John believes the technical breakout in yields is more of a false dawn
- John also believes the unhealthy concoction of factors will prove to be a buying opportunity for bonds in a few months’ time
A method of estimating a bond’s price volatility, expressed as a number of years, measured in terms of the weighted average of all the bond’s remaining cash flows (both coupons and principal). The larger the figure, the more sensitive it is to a movement in interest rates. Fed
An informal name for the US central bank – the Federal Reserve Bank; also for the Federal Reserve Board or the Federal Reserve System. High yield bond
Corporate bonds rated below investment grade (BBB-/Baa3) by major credit rating agencies such as Moody’s or Standard & Poor’s (S&P). The typical high yield issuer has a long-term credit rating of BB/Ba2 or lower. Santa Claus rally
A rise in stock prices in December, usually in the final week
Please read the following important information regarding funds related to this article.
- An issuer of a bond (or money market instrument) may become unable or unwilling to pay interest or repay capital to the Fund. If this happens or the market perceives this may happen, the value of the bond will fall.
- When interest rates rise (or fall), the prices of different securities will be affected differently. In particular, bond values generally fall when interest rates rise (or are expected to rise). This risk is typically greater the longer the maturity of a bond investment.
- The Fund invests in high yield (non-investment grade) bonds and while these generally offer higher rates of interest than investment grade bonds, they are more speculative and more sensitive to adverse changes in market conditions.
- Some bonds (callable bonds) allow their issuers the right to repay capital early or to extend the maturity. Issuers may exercise these rights when favourable to them and as a result the value of the Fund may be impacted.
- If a Fund has a high exposure to a particular country or geographical region it carries a higher level of risk than a Fund which is more broadly diversified.
- The Fund may use derivatives to help achieve its investment objective. This can result in leverage (higher levels of debt), which can magnify an investment outcome. Gains or losses to the Fund may therefore be greater than the cost of the derivative. Derivatives also introduce other risks, in particular, that a derivative counterparty may not meet its contractual obligations.
- When the Fund, or a share/unit class, seeks to mitigate exchange rate movements of a currency relative to the base currency (hedge), the hedging strategy itself may positively or negatively impact the value of the Fund due to differences in short-term interest rates between the currencies.
- Securities within the Fund could become hard to value or to sell at a desired time and price, especially in extreme market conditions when asset prices may be falling, increasing the risk of investment losses.
- Some or all of the ongoing charges may be taken from capital, which may erode capital or reduce potential for capital growth.
- CoCos can fall sharply in value if the financial strength of an issuer weakens and a predetermined trigger event causes the bonds to be converted into shares/units of the issuer or to be partly or wholly written off.
- The Fund could lose money if a counterparty with which the Fund trades becomes unwilling or unable to meet its obligations, or as a result of failure or delay in operational processes or the failure of a third party provider.