The return from investment-grade corporate bonds for the whole of 2013 has been positive, with the segment doing better than AAA-grade sovereign bonds. The gains made in the opening half were, however, practically wiped out in June in the aftermath of the Fed’s comments about possible tapering and fears associated with slowing economies in emerging countries. The corporate bond market remains in good shape for the time being, and spreads should narrow even further, with the financials sector outperforming and spreads for peripheral borrowers continuing to fall. The low level of yields at present, however, limits the appeal of this asset class and, as a knock-on effect, its likely returns.
High-yield corporates are still benefiting from investors’ search for yield. Flows into high-yield bonds have remained robust in the USA and Europe, especially for short-term solutions. We are still confident in prospects for high-yield corporates as deleveraging at the banks is throwing up some attractive opportunities and investors remain keen on this particular asset class.
As for Emerging Local Currency Debt bonds this was a disappointment, with the asset class returning -8% for 2013, compared with a return of +16.8% for 2012. The Fed’s QE ‘taper talk’ in May led to a rise in US Treasury yields and a summer sell-off having an almost equal impact on currencies and local bonds. The September Fed meeting surprised markets with the unexpected decision to delay tapering, resulting in some recovery until things weakened again in November as we moved closer to tapering. We see increased volatility, more differentiation between markets and scrutiny by investors, plus greater political risk due to several forthcoming elections, as in Brazil. Despite these challenges, it remains one of the more attractive areas in the fixed-income universe given the investment-grade status, attractive yield, good fundamentals and potential for healthy returns over the long term.
Please find enclosed the latest edition of the Pictet Bond Letter.