Bond market valuations have generally risen, making value hard to find, according to Bryn Jones, head of fixed income at Rathbones Asset Management, but the range of opportunities is quite narrow.
Jones, who is in his 20th year managing fixed income portfolios at Rathbones, says: “Valuations are more expensive and yields have come in. The thing is, though, there is a lot of bad news out there around bonds, in the autos sector and in terms of property.
"I would be particularly worried around single issue single asset bonds, but on the other side of it, financial companies have been beating expectations, with HSBC and Credit Suisse profits ahead of expectations."
His response to much of the political and economic uncertainty present in the world right now is to try to avoid taking big positions on duration – that is, on the direction of interest rates.
He says: “Generally speaking, our response to markets right now is to move up the capital structure and to be neutral on duration.”
Moving up the capital structure means getting exposure to bonds that are not subordinated – that is, being first in the queue to be paid back, rather than further back in the queue, but with a higher coupon in compensation.
Cautious notes
That cautious note is expanded upon by Shaniel Ramjee, co-head of multi-asset at Pictet Asset Management, who says that “right now there is a lot of volatility in fixed income, particularly in government bonds. At that level of volatility one has to think of bonds as a risk asset.
"The traditional Pavlovian response of going to long duration when rates are being cut doesn’t seem as obvious this time.
"Certainly we are not keen to take duration risk right now; based on the present economic data in the US, we don’t think rates will fall to the extent the market has priced in."
In terms of where he is finding opportunities, Ramjee says: “With the US economy doing well, investment-grade bonds look attractive to us, albeit the spreads are tight.”
The spread is the extra yield an investor receives for taking additional credit risk beyond owning the credit risk-free asset that is government bonds, if spreads are tight, then Ramjee’s view is the reward for taking the extra credit risk is meagre.
That is another way of saying the price of the bonds are relatively high.
The tightness of spreads is a point taken up by Thomas Hanson, head of European high yield at Aegon Asset Management.
High-yield bonds are those with the greatest credit risk, and Hanson says with spreads where they are, he does not expect to see much capital growth from his portfolios, but instead for the returns to come from the income received, with yields around 8 per cent right now.
