The era of easy money is coming to an end: A strong economic backdrop is leading central banks to remove excessive monetary policy accommodation, at different speeds. The peak of liquidity looks to be behind us and this new environment may point to different market scenarios.
Time to rethink fixed income investing: Fixed income allocation remains key to diversifying the overall risk exposure of a balanced portfolio, especially at a time of rising market volatility. Five themes will, in our view, provide the tools for active bond investors to dynamically exploit opportunities in multiple sectors.
Embrace a global diversified approach as part of core fixed income allocation: A global approach may help investors to expand their opportunity set in search for alpha.
Complement the core fixed income allocation with goal-specific solutions: In a world in which a one-size-fits-all approach is no longer suitable, investors should build a core bond allocation based on their specific needs based on a diversified approach utilising active solutions to target specific objectives.
The end of easy money may point to different investment scenarios
Core fixed income allocation, usually comprising high-quality government and corporate bonds, has played a relevant role in diversified portfolios over the last few decades. In a 30-year bull market for bonds, this allocation has been a stable source of performance; it has, for a long time, provided attractive income and helped to limit the overall portfolio drawdowns. Investors now stand at a crossroads: changes in CB monetary stances are resulting in the end of the easy money era driven by excess market liquidity. While fixed income allocation remains key to diversifying overall risk exposure in a balanced portfolio, especially at a time of rising market volatility, we believe it is time for investors to rethink their investment approaches in order to deal with the possible scenarios ahead.
In a stronger growth environment, our base case is for a gradual rise in interest rates, which is healthy at this stage. We see at least two further Fed rate hikes in 2018, with the possibility of seeing more with pressure building on inflation. The European Central Bank, while keeping a more accommodative stance, will wind down the Public Sector Purchase Programme (PSPP) in 4Q18. The Bank of Japan will likely lift the 10Y target, proportional to the global yields level, and the unwinding of the negative interest rate policy could follow very closely. The Bank of England appears likely to raise rates once in 2018, as a consequence of higher inflation. This means that the peak of liquidity is behind us.
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