Fixed income yields are at a “once in a generation opportunity” according to Alex Pelteshki, co-manager of Aegon Strategic Bond fund.
In this interview, Alex provides a comprehensive overview on the peaking of rates and yields, emphasising the impact of already tight monetary policies across major markets. He also highlights the fund’s flexible approach, focusing on opportunities in government bonds and the high yield market.
The interview concludes with the question of recession in 2024, offering a nuanced perspective on the economic conditions in Europe and the UK and how the fund is positioned as a response.
Why you should listen to the interview: Uncover the current opportunities and nuances in fixed income markets for 2024, for example, short versus longer-dated bonds. You’ll also gain valuable insights into interest rates and the world of corporate and investment grade bonds.
Please note, answers are edited and condensed for clarity. To gain a fuller understanding and clearer context, tune in to the ‘Investing on the go’ podcast. This interview was recorded on 11 December 2023.
What’s interesting in this interview:
Where do yields and rates go from here?
“We think rates have peaked. We certainly do not see any more rate hikes on the horizon across the major markets that we looked at, including the United Kingdom. This is our base case and this is primarily drilled by the fact that monetary policy is already quite tight.
In other words, interest rates across Europe, the UK and the US are tight, and they’re restricting economic output and they’re having an impact. The speed with which that travels through the system varies to different degrees across those three different markets primarily because of the differences in the so-called monetary transmission mechanism. But in simple terms, you are already seeing the impact in Europe and in the UK in the form of falling house prices already, economic activity slowly grinding to a halt and a gradual uptick in unemployment across both Europe and in the UK. In the US, you’re seeing tentative signs or early signs of this already beginning to happen as well.
“We think in particular the Bank of England will want to see a sustained progress towards their inflation goal in order for them to start talking about cuts. They will be very cautious about any premature easing of monetary policy, but it is very clear that monetary policy is restrictive as it is. It’s a matter of when we’ll start seeing cuts rather than if, and we don’t have a perfect answer to be honest. We’re not here to time the market, but we are certain that we will see a lower base rate at some point 18 months from now – and I say 18 months because it’s a sufficiently long period of time, in reality it could happen much faster.”
The appeal of government bonds
“We can invest across the entire bond universe and we currently find government bonds offering very attractive value in certain points of the yield curve. We’re quite happy to increase government bond exposure in the short maturities anywhere between 3 and 7 years maturing within that period. We’re not certain that adding government bonds maturing in longer than 15 or 20 or 30 years from now is still a good value, so while we do like government bonds in general, we still expect the so- called interest rate curve to steepen, therefore we find quite a bit of value in the front end, but not so much in the long end.”
Fixed income markets today
“If you look in general, we think the bond market looks as attractive as it has in many years relative to most other asset classes. In the very simplest terms, fixed income as an asset class was something, traditionally there to provide income sitting investors with exactly that; a recurring source of income with very low capital at risk so that you don’t have to risk your savings too much and with quite a bit of liquidity, so, you could withdraw cash essentially tomorrow if you wanted to, if those were your circumstances.
“And in the past 15 years this has all but disappeared from the fixed income market, because of the global central banks and bond deals at zero or below zero. And now in the past 18 months, that value has returned to fixed income in general. And if you think of it, in its simplest terms, fixed income now yields more than equities. If you only look at the investment grade bond market, it yields more than global equities, if you look at the S&P 500, for example. So, as an investor, you no longer need to chase that additional income or that same amount of income in riskier assets like equities, you can move the money back to bonds and that’s a very powerful proposition, it’s one that you haven’t seen in over 15 years.
“If you look at all-in yields – purely only investment grade – you are starting from over 5.5% yield on the index in the US. And if you look in the high yield markets, then that yield becomes 9%. Those are owning very attractive levels that we think are probably a once in a generation opportunity that investors should make use of.”
The possibility of – and opportunities in – recession
“Right now, we are witnessing negative growth in certain parts of Europe, in particular the ones focused in the manufacturing sector. But some on the periphery that are more service-oriented, are doing okay. So, there is a reasonable chance that there may be a recession in Europe, but also there’s a reasonable chance that Europe may avoid that. And you could probably construct similar arguments for the UK as well.
“If you were to say the likelihood of the UK entering into some sort of recession in the next 12 months versus not, is probably higher by a little bit, but we don’t see periods of a very deep recession, of a very structural and profound recession either in Europe nor in the UK, let alone in the US.
“To us, it becomes more of a question of where do we expect economic growth to peter out? And if it’s around -0.5%, so a small recession, to +0.5% on aggregate, that kind of environment is very favourable for fixed income in general. So, even though the definition of being in recession or not, and the different scenarios would differ, the overall opportunity will be pretty much the same for us because a situation where inflation is falling but growth is relatively anaemic or just below trend, is something that bonds would particularly like.”
Conclusion: If you want to hear some forthright views on what’s coming for the fixed income market this year, this interview is well worth a listen. Alex is offers direct in-depth answers to a variety of topics influencing fixed income markets and certainly makes a strong case for his asset class as one to back in 2024.
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