Yields are caught between inflation and recession fears. While the Fed made it clear that it would hike rates sharply to control inflation, this would not be without risks regarding consumption, which for now looks strong. In Europe, the ECB has charted a path of tightening, but we think investors should not go overboard in their estimates of rate hikes, given that Europe appears more vulnerable. At the same time, credit spreads are not very far from long-term averages, implying that while there are clouds on the horizon, financial conditions have eased slightly, particularly in the US. As a result, investors should consider more quality oriented credit but not de-risk portfolios while also focusing on liquidity amid challenging liquidity conditions.
Global and European fixed income
We continued to reduce our cautious stance on duration, staying close to neutral. However, we are active across curves and geographies, looking out for any tactical opportunities. We have a defensive view on the US, and cautious/neutral stances on Europe (less defensive than before) and the UK. On peripheral debt, we are monitoring the yields on BTPs in light of political developments and the ECB’s transmission protection instrument. Elsewhere, our constructive stance on duration in Australia and New Zealand remains, although we marginally downgraded our optimistic view in China which is a strong portfolio diversifier in the long term. We keep a slightly constructive view in credit, with a preference for high-quality IG. Within this, we favour the US over Europe owing to strong corporate balance sheets. After the recent movements, IG valuations are attractive, but selection is key. We think investors should consider reducing beta, tilting more towards high-quality (Arated) and liquid securities. In HY, hedging may be used to protect against spread widening.
US fixed income
We are witnessing a growth deceleration but no signs of a recession and credit markets seem to realise this nuance. While sentiment is affected, in general, consumers’ financial situations are better than in the 2008 crisis. On the other hand, the Fed is aggressive, no doubt, but we should not underestimate its willingness to support economic growth, if the situation deteriorates. As a result, we stay neutral on duration but are tactical, staying active to adjust this stance depending on yields repricing. We are also monitoring the movement in real rates and TIPS. In securitised credit, agency MBS are particularly attractive when compared with other alternatives in the market. However, spreads are volatile, owing to the Fed’s diminishing support of the market. So, selection is important. Spreads in corporate credit (both IG and HY) are higher than long-term averages but not at extreme levels. We keep a stable beta and limit our spread duration exposure, with a clear inclination towards quality.
The recent EM spread-widening has created compelling valuations. Stabilisation of US 10Y yields, coupled with an improvement in EM-DM growth differentials in H2, should be supportive. We prefer HC bonds, favouring HY vs IG, but are more selective in LC and cautious on EM FX. In China, we are monitoring the real estate sector and boycotts of mortgage payments. Elsewhere, we favour commodity exporters (Latin America).
We are more constructive on the USD/EUR owing to a hawkish Fed and weakness in Europe (impacted by Russia’s gas sanctions). However, we are cautious on the EUR, GBP and CNH and in general are no longer positive on cyclical FX. In EM, we stay positive on the MXN, CLP and ZAR.