Finding value in Fixed Income

We believe we will continue to see slow growth in Europe. There is still a lot of rebalancing that needs to be done and structural problems that need to be dealt with. We feel the core countries are still overvalued, but Europe nonetheless should outperform US bonds which have a rather different interest-rate risk profile.

The recent Fed tapering saga has delivered uncertainty and volatility. This is perhaps not a great recipe for market stability, but it is ideal for an investor seeking value based on fundamentals. In a number of areas including local and hard currency emerging market sovereigns and sub-investment grade corporate debt, we are seeing opportunities. In these areas, we believe there lies not only value but that these investments have become more compelling as the market has sold-off due to fears about a hawkish Fed. We have been building positions in countries such as Poland, other peripheral European countries and emerging markets around the world which display far better metrics, with lower debt and higher projected GDP growth figures relative to their developed market counterparts. This is where we see the value.

 

Regardless of how the fundamentals of the Eurozone, the EU or Europe are presented, investors should avoid viewing these units as homogenous or a combination of groupings (for example, core and periphery), and instead focus on pinpointing the individual countries whose debt potentially offers the most attractive risk/return profiles. We would urge investors to focus on the growth and debt metrics of individual European countries, rather than fall into the habit (or trap, as we would argue) of viewing Europe through a prism of pessimism. We believe the volatility in European markets seen during the Eurozone crisis has sometimes caused sovereign yields to become detached from underlying credit fundamentals, presenting plenty of attractive investment opportunities.

We are currently overweight in Italy, because we believe the case for Italian sovereign debt remains broadly positive. Our initial investment view was taken as the deepening of the Eurozone crisis from late 2011 onwards underlined to the region’s policymakers how difficult it would be for the monetary union to function without Italy. Political instability in Italy has ebbed for the time being, allowing the Italian government to implement a number of reforms to boost their economy and get things moving in the right direction. Lastly, in our view, Italian yields have continued to offer attractive value potential, particularly when compared to the returns on offer from German Bunds which we think still contain a perceived "safe-haven” premium that is not merited. We think Italian bonds are likely to outpace gains in German debt as economic growth picks up in the euro zone, reducing the need for investors to stay invested in so-called haven bonds.

We still think there is value to be found in corporate bonds and believe they should continue to outperform government bonds. In terms of sectors and ratings, we really focus on fundamentals rather than ratings, and take a bottom-up approach, rather than looking at specific sectors. We do think there is value to be found in both high yield and investment grade bonds which are attractive in terms of providing yield and helping to diversify the portfolio. Of course, it’s important to evaluate opportunities on a case-by-case basis to find the right risk/reward profile.