Bonds in brief: making sense of the macro - November issue

Marco Giordano, Investment Director
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The views expressed are those of the author at the time of writing. Other teams may hold different views and make different investment decisions. The value of your investment may become worth more or less than at the time of original investment. While any third-party data used is considered reliable, its accuracy is not guaranteed. For professional, institutional, or accredited investors only.

Welcome to “Bonds in brief”, our monthly assessment of risks and opportunities within bond markets. 

Key points

  • In a stunning turnaround from last month, November saw global fixed income record its best monthly returns since 2008. Global sovereign markets rallied strongly, with yields declining sharply, and spreads tightened across most fixed income sectors. 
  • The latest data suggests that while economies are weakening, they are doing so slowly, and cycles are finding a floor. While headline inflation keeps decreasing, core inflation remains comfortably above target, as services purchasing managers’ indices exceeded expectations and labour markets remain very resilient, with unemployment ticking up only slightly in most countries.
  • High-quality bonds offer a similar return stream to cash but can also offer downside protection, should central banks (eventually) cut rates. For investors concerned about timing a move out of cash into fixed income, our research suggests that historically it has paid off to be early relative to the last rate hike. 

What are we watching? 

  • Policy errors are potentially more likely as central banks and markets navigate a treacherous growth/inflation trade-off. Policymakers’ messaging shifted meaningfully in November, moving towards cautious optimism that while rates are likely to stay high for the time being, cuts are more likely than hikes thereafter. Markets have fully embraced this pivot. The soft landing, or “Goldilocks”, outcome currently priced in requires favourable economic data to continue, including cooling inflation, no more than a gentle increase in unemployment and flatlining growth. However, we think investors should not discount the still significant levels of uncertainty surrounding this central outcome. On the one hand, plateauing or reaccelerating growth could bring about stickier and higher inflation; on the other, a significant slowdown could materialise. 
  • Geopolitical risks remain top of mind. While the conflict in Ukraine has not abated in intensity, ongoing material support from the West (and the US in particular) may come into question in the coming months. In the Middle East, while we don’t expect immediate escalation in the Israel-Hamas war, an expanded regional conflict remains a substantial risk. In the Americas, Venezuela and Guyana are experiencing rapidly escalating diplomatic tension over the oil-rich area of Essequibo. This is important to watch given the increased possibility of military conflict in South America and the Western Hemisphere and the possibility that progress towards ending sanctions for Venezuela and its energy products will be derailed. 
  • Japan is the notable exception to restrictive monetary policy in developed markets. So far, investors have been unsuccessful in putting pressure on the Bank of Japan to normalise at a faster rate, causing the Japanese yen to depreciate throughout this year (aside from a rally in November). With reflation persisting, the central bank appears set on continuing its path towards abandoning yield curve control, and a rate hike is in sight — but questions remain over how and when this will occur.

Where are the opportunities? 

  • Higher-quality total return strategies, such as global sovereign and currency strategies, and unconstrained strategies have the potential to outperform in this late-cycle period by allocating across different sectors.
  • Core fixed income, and in particular credit, strategies appear increasingly attractive from both an income and capital protection perspective. They could offer significant upside potential in a risk-off environment. 
  • For European investors seeking protection from ongoing volatility and uncertainty, high-quality bonds may provide potentially attractive income, both in local indices and by going global.

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