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Major central banks will begin reducing their intervention rates from 2024. Yes or yes. No investment firm doubts that the European Central Bank (ECB) and the US Federal Reserve (Fed) will lower the price of money next year. The only debate is when and for how much. Economies on both sides of the Atlantic are showing early signs of fatigue (particularly in Europe) and there will be no choice but to promote less restrictive monetary policy. In fact, a dozen central banks from other economies around the world, mainly emerging markets, have already taken this route. The most important consequence for bond investors is that government debt will be repriced with this move. The further away the expiration date is, the greater the increase.
It has been many years since there was such a clear consensus among the various analyst firms about next year's star asset: fixed income. For some, it's ideal to still commit a little to short-term bonuses; Others argue that it is possible to get to longer terms; The majority are betting on high-quality corporate bonds… but they all see great potential in fixed income, which in many cases will allow them to recover lost levels in 2022.
Jim Leaviss, director of public fixed income at UK manager M&G Investments, is clear: “We believe 2024 could present opportunities for government bond and duration investors as interest rates appear to have peaked and valuations are attractive.”
In Europe, many government bonds already pay coupons of around 4%, in the USA over 5%. This income, known in technical jargon as carry, is almost guaranteed (except in the event of default by the issuer, which is unlikely for the highest quality government bonds). However, if interest rates fall by at least 100 basis points, as analysts estimate, these bonds could appreciate by between 8% and 10%, depending on the term. The latent risk is that inflation will be less controlled than expected and that new interest rate increases will occur, which is still a long way off.
Yoram Lustig, head of multi-asset solutions at T. Rowe Price, reminds that “central banks must defend their credibility and cannot take the risk of declaring the battle against inflation has been won and cutting interest rates too early.”
Fund managers, particularly at banks, make fortunes selling pension funds. In 2022 and 2023, many bond funds were sold to maturity, where the company buys a portfolio of bonds and waits for them to mature. Benjamin Melman, investment director at Edmond de Rothschild AM, explains that “this type of product will continue to see strong sales in 2024, as this is the ideal time as the chances of fixed income securities falling in value are very low.”
Other funds that have performed best in 2023 are monetary funds. Banks made them an alternative to deposits for which they did not want to pay high fees. But next year the situation will change.
Luis Artero, director of JP Private Banking in Spain, highlights that one of the big dilemmas his clients face today is that they are less exposed to cash. “This year they have built up a lot of positions in cash and bond funds with very short durations because they were paying really very attractive returns and it was very easy to leave the money there, but now they have to be aware that there is an opportunity cost .”, because “other assets will provide better returns.”
In addition to government bonds, analysis firms are discussing the advisability of investing in corporate issues. Santander considers it a very attractive asset, but recommends that its clients increase exposure to bond issues from companies with high credit quality. Juan de Dios Sánchez Roselly, investment director of Santander Private Banking, recalls: “When the economy slows down, without a recession and a fall in interest rates, investing in high quality corporate bonds offers a binomial of profitability. A very attractive risk.” .”
The other fixed income asset that is included in many portfolios is emerging market government bonds. Several central banks in Latin America and Asia have already started cutting interest rates. In addition, the public finances of many of these economies are healthy, which has protected them from the impact of the US interest rate hike. Matt Morgan, head of fixed income at Jupiter AM, believes “it will be one of the star assets this year” and Claudia Calich, manager of the M&G Emerging Bond Fund, agrees, believing the prospects are particularly strong will be cheap “if the weakening of the dollar is confirmed.” Of course, all experts agree on betting on dollar emissions.
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