Last week I met Paul Causer who, alongside Paul Read, leads Invesco Perpetual's Fixed Interest team. The team's views are always interesting, and clearly expressed across their range of funds. Rather than focusing on one fund this week, I thought I would consider the outlook for the wider bond markets.
Mr Causer believes we are in "unusual times", which I would say is a huge understatement! It is so unusual, in fact, that few areas of the fixed-interest markets currently offer much in the way of yield. According to the manager, a reasonable proportion of the global government bond market is yielding less than 1 per cent. So are bonds an appropriate investment if they are, or are close to, receiving a negative yield after the effect of inflation? Where is the inherent value?
Since the 2008 financial crisis, central banks have, in some respects, fixed the markets. With historically low interest rates, investors have been forced to take incrementally more risk to achieve a better return, or income, from their investments.
The question on Mr Causer's lips is: how can we make money from here? He admits he could have asked the same question at the beginning of 2014. Yet almost every area of the bond markets made gains last year, which surprised even the most experienced of bond managers. It is possible the climb will continue throughout 2015. However, to believe this you would have to be extraordinarily pessimistic on the global economy.
Invesco's team anticipates a gradual improvement in the global economy for several reasons. First, the collapsing oil price has translated into a significant spending cut, for both individual consumers and businesses. Second, the size of the quantitative easing programme recently announced by the European Central Bank is far greater than the programmes undertaken by the Bank of England and the US Federal Reserve. And finally, a weakening euro could prove a boon to the European economy, fuelling inflation and boosting overseas sales – a weakening currency makes exports cheaper for foreign buyers.
The US remains the world's bright spot, and the question here is whether its recovery can be sustained. It would appear so, given the fall in the cost of energy, while job creation also remains strong.
The bond markets have traditionally been a good indicator of where the economy is heading. In the present environment, bond fund managers face a conundrum: interference from global central banks has distorted fixed-interest markets, making it increasingly difficult to determine where we are headed.
Falling levels of inflation mean we are likely to see an extension of lower interest rates than originally anticipated. That said, Mr Causer expects the Fed will increase interest rates by 0.5 per cent some time between June and September this year (with June being his likely date).
A move in the US would mark the beginning of a step change. Other developed markets, such as the UK, would be likely to follow suit. It would be the first interest rate move in several years. At a time such as this, Mr Causer believes caution and patience is warranted.
As such, Invesco Perpetual's Fixed Interest portfolios are currently short on maturity (the shorter the time to maturity, the less a bond is likely to be affected by changes in interest rates, or inflation). The team views its positions in short-dated bonds, as well as in government bonds, as near-cash positions which can be sold quickly. This defensive element means it is well placed to weather turbulent market conditions, while it also provides firepower to take advantage of future buying opportunities or weakness in the market.
It is clear the team at Invesco does not feel this is the time to be buying heavily into fixed-interest markets. Instead, it prefers to be patient and bide its time until better value arises. The way things are heading, it could turn out the argument that only the bond market can be right about the future is in fact the wrong one. In the meantime, I am also of the view this is not an ideal time to be aggressively overexposed to fixed-interest securities.
Mark Dampier is head of research at Hargreaves Lansdown, the asset manager, financial adviser and stockbroker. For more details about the funds in this column, visit www.hl.co.ukReuse content