Fixed income has returned to the investor spotlight following the recent easing of monetary policy by many of the world’s major central banks. Should the declining yields on cash drive investors back to bonds, five fixed income experts highlight the most appealing opportunities on offer, as well as the risks to be aware of.
Karsten Bierre, head of fixed income asset allocation at Nordea Asset Management
We see value across high-quality government bond markets, given the above-average levels of yields offered by 5yr and 10yr bonds and the ongoing dynamic of more dovish monetary policies. The normalisation in inflation levels – and continuously low inflation expectations – has given central banks room to lower rates. This macro backdrop should be good for high-quality government bonds, as they will benefit from short-end yield curves transitioning lower and from the positive roll-down/carry effect that will come with the newly achieved positive steepness.
On the credit side, valuations are a bit too stretched, particularly when we look at spread levels adjusted by expected defaults compared to the past couple of decades. While yields across some credit markets are higher than 3-5 years ago, most of the yield comes from higher cash rates and duration premia, not the credit component.
In terms of portfolio diversification, correlations between bonds and equities/credit have normalised a bit over the past few months, which is reassuring. Nevertheless, 2022 taught us that positive real rates can present a challenge to asset class correlations. As such, investors should not fully rely on bonds to diversify their credit/equity risk. We see alternative risk premia strategies as a source of both return and diversification alpha, which is why we use them across our portfolios.
Amanda Stitt, fixed income investment specialist at T. Rowe Price
In the current market environment, inflation-linked bonds are attractive. With breakeven inflation rates – a measure of market-implied inflation forecasts – currently priced below headline inflation rates, we believe inflation-linked bonds offer investors good value. This includes German inflation-linked bonds and US TIPS.
We also find short-dated corporate credit attractive at present, particularly European investment grade bonds. This is driven by a combination of high all-in yields, healthy corporate fundamentals, and supportive technicals. In addition, we see room for European credit spreads to tighten versus the US, particularly if the eurozone economy improves.
An area we are more cautious on at present is emerging markets. This is driven primarily by uncertainty due to the upcoming US presidential election and concerns around tariffs. Once this event risk clears, there should be a clearer picture of the investment landscape in emerging markets.
Alex Rohner, fixed income strategist at J. Safra Sarasin Sustainable Asset Management
Long-term bond yields are probably fairly priced and should settle at around current levels over the medium term. Yield curves will likely steepen further as central banks cut rates, consistent with the pattern observed in previous cycles. Yet we are at a stage of the cycle where probabilities for negative economic surprises, and thus a more decisive response than currently priced, typically increase. Therefore, the risks are still for yields to move lower over the next 6-12 months.
We conclude the risk/return trade-off for owning duration remains attractive for now. We continue to prefer intermediate maturities of 5-10yrs, as they benefit from steeper yield curves and have sufficient duration to profit from lower expected intermediate yields.
Expectations for more rate cuts support the soft-landing narrative and continue to push down expected default rates for 2025 and beyond. As a result, credit spreads continue to grind tighter. Risk premiums across all fixed income sub-asset classes are now close to the lowest levels over the past 12 years. Nevertheless, in the absence of meaningful economic weakness, the magnitude of any potential widening in spreads going forward will likely not be large enough to warrant a structural underweight in credit. We retain our neutral assessment on credit, both for investment grade and high yield.
Fatima Luis, senior fixed income portfolio manager at Mirabaud Asset Management
The interest rate-cutting cycle is well underway. However, interest rate volatility remains high when compared to corporate spread risk. This seems to be a source of confusion, especially as we have seen the bond markets overprice the number of cuts and economic data has shown resilience.
What has done well and continues to perform is spread product. Corporate bond spreads across the rating spectrum have compressed throughout the year. While we believe spread levels are now at fair value, resilient macro data, especially in the US, continues to serve as a tailwind to corporate bonds. We particularly like low-rated investment grade and high-quality high yield, as the attractive coupon provides decent income return.
Given the uncertainty around the pace of further cuts and the rate of disinflation going forward, our preference is for corporate bonds with maturities in the middle of the curve, rather than longer-duration corporate bonds. As for the sterling market, we will maintain our allocation as the extra pick-up in yield is attractive while interest rates are still high in the UK.
Ashok Bhatia, co-CIO of fixed income at Neuberger Berman
Although corporate spreads are tight relative to history, all-in yields are attractive at these levels. However, given growing strains on the economy, ‘up-in-quality’ credits with defendable balance sheets seem particularly appealing.
In an environment of generally narrow credit spreads, differentiation among segments and issuers has become especially important. We continue to find value within securitised products across various sectors, maturities and risk profiles, observing that spreads remain around long-term historical averages, in contrast to corporate credits.
The varied pace of easing, along with dispersion in economic growth and strains on the credit front, may widen the gap between winners and losers across the fixed income spectrum.
