Fixed Interest

  • No bursting of the bond bubble last year then and we are unlikely to hear a loud bang this year either. Bond yields plunged in the summer as the US Fed sounded the retreat on interest rates, global growth slowed and safe havens were in demand. Having reached record low yields, and in many cases, negative yields (even in Greece!) yields tacked slowly back up last quarter as political and economic Armageddon was avoided. The year finished with 10-year government bond yields at 1.90% in the US, 0.84% in the UK, and -0.20% in Germany. 
  • So where will these 10-year yields be at the end of 2020? We suspect around 1.80% in the US with steady if lacklustre growth, no inflationary pressure and the status of being the global ‘go- to’ risk-off asset. Maybe they’ll flirt with 2.3% but I wouldn’t expect much beyond this. The Eurozone remains pretty deflationary and so German yields will likely remain negative, maybe even falling further to -0.40% and with spread convergence between core and peripheral markets meaning positive returns from Spain and even Italy.
  • As for the UK, the election outcome was interesting for the UK debt market, favouring credit over govies. The Gilt market is relieved that we are not having a mountain of debt issued by an economically illiterate government. However, the lifting of the Corbyn curse and the prospect of some Brexit progress should lead to a pick-up in growth whilst looser fiscal policy normally leads to higher bond yields so I would not be surprised to see 10-year yields moving back up to 1% and maybe a touch higher as the year progresses.  We expect the BoE, especially with a new skipper at the helm, to remain firmly in ‘wait and see’ mode until we have a lot more transparency on the direction of just about everything, politically and economically. Credit spreads tightened post-election, especially in Banks and smaller domestic companies which were suffering a Brexit premium. I would expect a fair amount of new credit supply in the coming months now that the clouds have lifted to an extent, especially in debt heavily financials. 

Summary: Modest global growth and very supportive Central Banks imply that bond yields look set to remain in a tight range at low levels for the foreseeable future. Credit spreads tightened considerably in the Q4 ‘risk-on’ rally’ and have limited scope for further compression.

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