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Are investors buying bonds at just the wrong time?

Are investors buying bonds at just the wrong time?

by Daniel Grote Jan 11, 2018 at 13:37


The latest fund sales figures from the Investment Association tell a familiar story: bond funds were yet again the bestsellers, as they have been for the last six months, enjoying around three times the inflows of equity funds in November.

Against the backdrop of rallying markets, that's perhaps no surprise. Investors have been keen to lock in some of the gains from stellar stock market performance over the last 18 months by opting for the perceived safety of fixed income.

But they are piling into bonds amid heightened fears for the asset class, with yields having spiked this week and bond guru Bill Gross declaring a 'bond bear market'.

The bond market sell-off was sparked by relatively innocuous news from the Bank of Japan, which made small reductions to its monthly purchases of government debt.

But the reaction this provoked highlights how nervous investors are about the withdrawal of central bank support for bond markets as quantitative easing efforts are tapered. 

Yields on government bonds, which move in the opposite direction to prices, jumped. US 10-year treasuries are currently yielding 2.55%, around the highest level in 10 months.

While some, like Gross, have been quick to herald this as a warning sign, it's worth noting that commentators have persistently warned of the looming end to the bull market in bonds,  while yields have continued to grind lower, and prices higher, for the last 30 years.

Just look at Gross' own record with predictions. As Laith Khalaf, senior analyst at Hargreaves Lansdown, highlighted, Gross warned in 2010 that gilts were resting 'on a bed of nitroglycerine' when yields were three times higher than they are today. 'To be fair, he wasn't alone, and hindsight is a wonderful thing,' said Khalaf.

Yet it is still difficult to see an easy path to returns for bonds as central banks around the world begin to cut back on their bond-buying stimulus programmes and, however tentatively, begin to raise interest rates. Higher interest rates are generally bad news for bonds as they eat into the value of their coupons.

When yields are at as historically low levels as they are today, the problem is even more acute.

'It's hard to fathom why bond funds have gained such popularity at a time of rising inflation and tightening monetary policy, both of which make wringing returns out of an already fully-priced fixed income market look like an uphill struggle,' said Khalaf.

He suggested portfolio rebalancing, with investors banking some of their profits from the equity rally, as a possible explanation.

While in more conventional markets this form of portfolio derisking would make sense, Karen Ward, chief market strategist for Europe and UK at JPMorgan Asset Management, argued it could backfire.

Despite the strong rally in equity markets, share valuations hadn't actually moved much over the last year, she said, with stock market gains having been powered instead by improved earnings.

'There has been a lot of nervousness given markets performed so well last year. It feels a little bit euphoric,' she said.

'[But] prices aren't rising on hopes of great future earnings. They are largely rising on realised gains.'

This has been powered by the ninth year in a row of global growth, and Ward argued a tenth was on the cards, especially should productivity revive, driven by a rise in corporate investment. A plunge into recession, she said, was not among the most imminent risks to markets.

'I'm much more worried about inflation than immediately running into some recessionary risk,' she said. 

'And if you're worried about inflation, it's difficult to see why you would derisk to cash or to fixed income at this stage.'

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Comments  (8)

  • Rob Walker: 

    I don't believe this article relates to Corporate Bonds. Yet, as always, we have to delve into the detail to decide what sort of Bonds they are talking about. Can't the editors invent some terminology to differenciate between the two, up front?

    17:19 on 11 January 2018

  • charles goody: 

    I agree,

    18:55 on 11 January 2018

  • Hank Elvis Dobbs (texan): 

    Each and every one of the companies i invest in have improved earnings yet the share price on a relative basis has actually fallen...so much for an overpriced market...Once again "market" nay index (numerical) appreciation largely by oil and mining has lead to this misconception of "overvaluation" when the majority of companies are undervalued...don't be fooled

    19:02 on 11 January 2018

  • Hank Elvis Dobbs (texan): 

    ..oh and the article refers to government bonds...largely us treasuries

    19:04 on 11 January 2018

  • anglo29: 

    I agree the experts should explain exactly what kind of bonds they refer to when they talk of an impending bear market. There is a world of difference between government bonds (gilts) and corporate or strategic bonds.

    I suspect there is a kind of "muted panic" going on with investors, partly due to politically generated scare stories over Brexit. Also increasing global tensions. So where else do you put your money?.....Keeping it in the bank is a guarantee it will lose value; with interest rates approx. 2% below the rate of inflation.

    My portfolio, primarily geared for income as I'm retired; has around 70% corporate/strategic bond content. Despite experts warning of the imminent collapse of the bond market for several years now; mine have been quietly ticking away providing a decent level of income and a satisfactory rate of growth.

    Moral: By all mean listen to expert opinions, but don't necessarily follow them, do your research and go with your own instinct. You may well find your decisions just as valid as the "experts". Always remember "screaming news headlines" are generated to sell newspapers, read the full story, and the reality can be very different.

    20:00 on 11 January 2018

  • Rob Walker: 

    Yes anglo29, I bought Royal London Sterling Bonds in 2010 and after they had gone up 10% in value the 'end of the bond boom market' headlines started to appear. I am now over 50% up in value and they are still paying over 6% so have nearly repaid my initial investment. There are also plenty of secure companies, like Tesco, who have issued their own corporate bonds direct to the retail market with little threat to the 6% return.

    It is boring stuff so no need for city pundits to comment, but for those intent on financial survival, corporate bonds (particularly in an ISA) are an excellent investment.

    21:51 on 11 January 2018

  • Peter in Cornwall: 

    anglo29 is right about following instinct. As an amateur in this field I put my pension into cash just before the banking crisis. Why? Because as an early riser I was listening to the then "barrow boys" at 5am on BBC5Live and after a while thinking I'm after a port in what is starting to look like a storm...................

    23:12 on 11 January 2018

  • anglo29: 

    Couldn't agree more Rob Walker....I invested in Invesco Perpetual Monthly Income Plus around the same time, it not only provides me with a good monthly income, but the capital value has increased steadily over the years. Several other bond funds taken out within my ISA wrapper since are all in positive territory, and provide either a monthly or quarterly tax free income.

    Over the long term my bond funds have outperformed my fewer equity ones, which tend to be up and down like the proverbial yoyo. Perhaps it's the old proverb about the hare and the tortoise...

    00:23 on 12 January 2018

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