Bond harmony is finding the perfect composition
How do you position for reflation? What happens if an expected economic recovery is delayed? How do you balance risk and reward? How do you determine how much of an expected economic change is already priced in? Will interest rates remain lower for longer or will the central banks give a jolt? What is a realistic outlook for the various bond sub-asset classes? These are all challenging questions for fixed income investors.
Envisioning the long-term market trend is as important as finding returns in the short term. A right mix of assets is essential. Instruments considered less risky, such as sovereign bonds and investment grade corporate debt, may inevitably offer lower yields. On the other hand, higher yielding bonds may carry a greater risk of illiquidity and default. Hedging such risks through derivatives may also entail costs, while following the herd mentality could prove costly if everyone runs for the exit at the same time.
To navigate this complex world, an in-depth understanding of macroeconomic factors such as ageing demographics is as important as studying flows, reading central bank liquidity data and keeping an eye on the vagaries of the currency markets. Understanding what the sheer level of global indebtedness means for inflation and growth is equally important. In this environment, we believe that flexibility and nimbleness are likely to be key to achieving desirable outcomes in fixed income portfolios.
Jupiter offers several potential ‘one-stop’ solutions for investors seeking expertise to allocate their assets dynamically between the various fixed income sub-asset classes as market conditions and the economic environment change over time. Both the Jupiter Dynamic Bond Fund and the Jupiter Strategic Absolute Return Bond Fund (SARB) take an active and flexible approach to investments.
Both the strategies also use similar techniques to study macroeconomic trends to analyse the potential outcome for the global economy. However, the two strategies express that analysis in very different ways. The Dynamic Bond strategy expresses many of those themes by choosing the right sectors of the economy to be exposed to, while also setting the best duration overlay to reflect that analysis. The fund uses only limited foreign exchange exposure. SARB uses limited credit exposure and looks to express its macro views mainly through interest rate, FX and sovereign exposure.
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Staying in tune with inflation: managing spikes, fading returns
The pace of price increases in the economy has a big impact on fixed income markets as it dictates the underlying value of the assets as well as real (above inflationary) returns generated for investors. Staying in tune with the direction of inflation is therefore crucial. Central banks around the world have been engaged in a sustained effort to spur inflation since the global financial crisis more than a decade ago.
Major central banks such as the US Federal Reserve, the European Central Bank and the Bank of England have stepped up their game to boost economic growth as the Covid-19 pandemic continues to disrupt normal life. Governments have also elevated spending and are unlikely to withdraw their support anytime soon as the livelihoods of the most vulnerable are the most exposed to the coronavirus.
While the post-financial crisis era was marked by low growth and low inflation, the additional backing from governments this time around has evoked some optimism about growth. But talk of reflation has caused nervousness among some fixed income investors. Is inflation transitory or persistent? That’s the key question many want answered. While a reflationary environment might well signal brighter times ahead for the global economy, it could prove rather challenging for many traditional fixed income investment strategies.
We believe that staying nimble and flexible will be the key to generating strong risk-adjusted returns, growing capital and mitigating risk through the interest-rate, credit and economic cycles. Jupiter’s Dynamic Bond strategy takes a high-conviction, go-anywhere approach, enabling it to adapt the portfolio as markets and the environment evolve. Meanwhile, our Strategic Absolute Return Bond strategy takes a highly flexible approach to investing across the fixed income market spectrum, constantly reshaping itself as the environment changes, with the ability to express outright negative views on duration.
Jupiter Dynamic Bond: Rotation and diversification
The fund manager has the power to use derivatives for efficient portfolio management only, not for investment purposes. Source: Jupiter. as at 30.06.21. DM includes all Western European countries. *Includes interest rate futures. Asset allocation includes derivatives’ exposure.
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Bond liquidity: let the music flow
Investors in today’s market face plenty of challenges, but a key concern for many is that liquidity in certain parts of the bond market can suddenly become scarce; it has happened before, and some investors believe it could easily happen again. The challenge for many is that predicting the timing of market stress is very difficult. Black swan events could also pose the risk of shock to the financial system. The global financial crisis of 2008 taught some big lessons to stakeholders including banks, other financial institutions, governments and central banks, leading to a significant tightening of regulations over the period that followed.
Still, the spread of Covid-19 caused some anxiety among market participants in early 2020. Central banks once again stepped into the ring, causing a sharp decline in bond yields, shrinking credit spreads and helping to smooth volatility. Governments also played their part to stimulate their economies. But speculation about when policy makers may withdraw support may induce swings in the markets.
Studying the macroeconomic trends closely can play a significant role in helping to maintain portfolio liquidity, even in times of market stress. Bottom-up analysis is also key, as the markets themselves can impact economic fundamentals and be key drivers of the broader asset classes. It’s also important to understand that a portfolio comprising low quality assets could face the brunt of any unexpected paralysis in markets. For instance, private debt markets can offer seemingly attractive yields, yet the market is often opaque and relatively illiquid. An investment philosophy grounded in pragmatism, and a highly active approach to risk management, combined with deep experience, could make a meaningful contribution to helping ensure your portfolio is liquid enough to face a wide range of eventualities.
Staying nimble and alert is the key to ensuring adequate portfolio liquidity. Absolute return funds tend to have high flexibility and make the most use of diversification, avoiding pure directional market plays to seek low correlation to markets. Jupiter’s Strategic Absolute Return Bond Fund continuously reinvents its portfolio to fit the macro environment. The fund predominantly holds sovereign bonds and avoids low-quality assets; liquidity is the key. If you believe that a traditional, long-only approach to fixed income investing risks becoming ineffective in today’s environment, the Jupiter Strategic Absolute Return Bond Fund offers a truly differentiated approach to achieving fixed income exposure, through its continuous reassessment of the economic and market environment and ability to express outright negative views on the direction of interest rates.
Strategic Absolute Return Bond: A dynamic and flexible approach
In today’s market, a long-only approach to fixed income investing is ineffective; there is room for a different approach to fixed income exposure. That’s why the team continually tweaks the portfolio to reflect the underlying macro environment.