Global Fixed Income Survey Results: Spotlight on Local EMD, Rates and Credit Spreads
Last October we initiated a quarterly global fixed income survey using responses from leading bond and currency managers highlighted by our research process. This quarter's survey included 165 responses from managers with specialisms ranging across Global Rates, Global Investment Grade Credit, Global Leveraged Credit, Securitised, US Municipal Bonds, Active Currency, and Emerging Markets (EM) including both Hard Currency and Local Currency Debt.
The findings are packed with insights about valuations and market outlooks and in today's blog we've highlighted three key areas:
- EM Local Currency Debt is the flavour of the quarter
- Global rates managers are implying that the US Fed could act more aggressively than the US economy can tolerate
- Managers across different parts of the corporate credit spectrum have no clear consensus on the direction of credit spreads
Local EM debt: Valuation and currencies both attractive
- 92% of our EMD survey respondents believe emerging market debt valuations are 'cheap' or 'fair value'.
- 96% are optimistic about emerging market currencies strengthening against the dollar over the next 12 months (versus just 52% last quarter).
- EM FX is also the top pick by our currency manager respondents with 50% identifying a basket of EM currencies as the likely top performer over the next 12 months.
- The 1-year scores for EM debt are now more positive relative to the 3-year scores, implying that Local EMD's time has come.
- This aligns with the views of our own strategists' team - who see a positive cycle, valuation and sentiment (CVS) backdrop for Local EM - and with the portfolio positions that our fixed income and multi-asset PMs have been building up since Q4 2016.
- Mexico is the most favoured EM currency versus the US dollar in our active currency survey (29%), but this has fallen from 44% last quarter following the peso's strong bounce recently. Several of our own portfolios have already taken profits in this trade.
Global Rates: US Fed could act too aggressively
- Our global rates respondents expect US interest rate rises to speed up.
- 73% expect 3 hikes this year, versus just 47% last quarter.
- Survey respondents are pricing in a very low terminal funds rate by the US Federal Reserve (Fed) as this quarter's average came in at 2.5%, down from 2.7% last quarter. Such a low rate implies a US recession is on the horizon if – as our managers expect – inflation stays near the Fed's target.
- This higher hiking rate, combined with lower terminal expectations, suggests that the rate market thinks the Fed may hike more aggressively than the US economy can tolerate. This scenario would be a challenge for credit spreads.
Credit spreads: No clear global trend
- In both the high yield and investment grade sectors, managers are getting more cautious about downside risk.
- Only 10% of high yield managers expect spreads to tighten (down from 17% last quarter).
- Over 50% of global investment grade managers expect moderate tightening of 10-30 basis points.
- Expectations for investment grade US municipal bond (munis) spreads are significantly better, with the proportion expecting wider spreads down to 29% (from 66% last quarter).
- 60% of our municipal managers expect US high yield munis to outperform US corporate high yield.
Opportunities for multi-asset investors
A substantial majority of the dedicated currency managers continue to expect volatility to increase in both EM currencies (83%) and the G10 (92%). In light of this, and the entire survey, we strongly believe that interesting risks and opportunities lie ahead for multi-asset investors. As always, investors will need to stay nimble and responsive to evolving conditions in order to reap the best rewards.