Confidence in central banks will be the defining risk factor for fixed income investors in 2017, not whether US treasuries plunge the bond industry into a secular bear market.
That is according to Didier Saint-Georges, investment committee member and spokesperson for French asset management firm Carmignac.
In the group’s monthly newsletter, Saint-Georges said the flightpath of ‘ultra-loose monetary policy’ would continue to define bond investors’ allocation agendas.
‘The yields on German government bonds currently do not exceed 0.30%, which is barely above their level in early 2015. Even US treasuries yields have not made it past their mid-2014 levels despite recent gains.
‘Given the emerging combination of a cyclical upturn and a return of inflation, we can look forward in the coming months to a major test of market confidence in the central banks’ determination to keep interest rates close to their floor. That is the leading market risk that we need to prepare for in 2017.’
Gross has said a technical bond bear market would be signalled if 10-year US treasuries breached the 2.60% yield mark, which was challenged by Gundlach days later, who said the 10-year yield would be integral but that ‘second-tier bond managers’ were focusing on the wrong number.
Speaking at the end of 2016, Saint-Georges had said the hunt for a ‘new way forward’ for markets in general would be a major factor across all asset classes and the group had said more expansionist policies were likely.
In the most recent update, Saint-Georges said the recent outperformance seen in markets was a short-lived rally spurred by pro-growth businessman Donald Trump winning the US election. He said there are, however, implications for trading throughout the coming year.
‘We are dealing here with a strictly cyclical phenomenon that may well create its own antidote in the course of 2017, given that the central banks have artificially kept interest rates at rock-bottom levels for years.
‘Strong upward pressure on bond yields, particularly if it coincides with a rising dollar, will lead to much tougher financing conditions for the US economy – just when the current boom might begin to run out of steam.
‘Initially, equity markets will continue to reap the benefits of the cyclical upswing under way; but eventually, they will be confronted with the wrenching adjustment of other asset classes to the new state of play.’
At an allocation level, Saint-Georges said Carmignac continues to draw strong equity performance from the Japanese and European markets, notably within oil and banking stocks. This was affirmed with the addition of Nomura Holdings in December.
In terms of bond bets, Carmignac is retaining a defensive stance and has adopted selective positioning in European credit and local currency EMD. This is while shorting US treasuries since US yields rising may be limited in the near-term.