Partner Insight: In this quarter's edition of Bond Compass, State Street Global Advisor's SPDR analyse three key themes that could assist investors in navigating uncertain fixed income waters
Navigating Interest Rate Risk by Focusing on Duration and Quality
Yields fell across developed markets in December as a tumultuous year came to a close. In 2019, support may not be as robust, as central banks either stop expanding their balance sheets (e.g. ECB, BoE) or reduce them (e.g. the Fed). Inflation may not spill over, but it is still alive and, thus, will keep pressure on yields.
Overall, State Street Global Advisors continues to favour a shorter duration bias as normalisation progresses. The short end remains well anchored in Europe, while the long end could be more susceptible to market dynamics where asset purchases would have less of an impact. EUR investment grade spreads widened 65 bps to 1.52% in 2018, but that spread pales in comparison to the 221 bps widening of EUR high yield.1 As a result, the outlook favours moving up in quality. In this period of potential yield increases across the EUR curve, short-dated EUR investment grade corporate (in EUR) also looks favourable.
Could converts lift exhausted bond performance?
In volatile markets, convertible bonds can provide investors a degree of downside buffer while still retaining the ability to participate in an equity rally. Convertible bonds tend to exhibit lower interest rate sensitivity than high yield and investment grade thanks to the implied equity option and a generally shorter maturity issuance. Having the ability to quickly gain exposure to convertible bonds via an ETF could be appealing as the market backdrop remains fluid.
Emerging market debt local currency overtakes developed markets
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1Source: Bloomberg Finance L.P., as of 31 December 2018.