Written by: Nick Gartside, International CIO of Global Fixed Income, J.P. Morgan Asset Management
The realities for fixed income investors have changed. How is this being reflected in markets?
Bond investing has become increasingly difficult over the past decade. Markets have been heavily distorted by ultra-low interest rates and quantitative easing, as well as by extreme risk aversion in response to the global economic crisis and the eurozone debt crisis. With bond yields still at historically low levels, investors can no longer rely on coupons for the majority of their fixed income returns. Instead, managers are increasingly challenged to generate capital gains by employing the full fixed income tool kit.
More recently, bond markets have been hit by a major shift in outlook for growth and inflation following the US elections. Yields have risen and credit spreads have narrowed in reaction to President Trump’s fiscal stimulus plans, which are expected to spur the Federal Reserve to normalize interest rates faster than was initially expected. This drastic change in outlook should lead to increased volatility as the market grapples with the new bond regime.
In this environment, how can investors generate attractive fixed income returns while managing volatility?
Quite simply, at a time when growth and inflation forecasts are rising, investors need to have every tool at their disposal to generate fixed income returns while managing risk. This means being mindful of the rigidities of fixed income benchmarks and considering an unconstrained approach so that opportunities can be exploited across the broadest possible investment universe.
Traditional fixed income benchmarks have some inherent weaknesses. They tend to reward bad behavior, and they no longer provide a sufficient cushion against rising rates. Most fixed income benchmarks – such as the Bloomberg Barclays Global Aggregate Bond Index – are market cap-weighted, so investing with reference to a traditional bond index may mean having most of your exposure to those countries or companies that have issued the most debt, and are therefore perhaps the least creditworthy. Additionally, many issuers have taken advantage of the low yield environment to extend the duration of their debt, eroding the yield cushion provided by benchmarks and exposing investors to potential capital losses when interest rates rise.
In contrast, unconstrained fixed income investors have the potential to allocate dynamically across all fixed income sectors, thereby positioning portfolios optimally as the economic environment changes. They can also quickly shift geographical exposure in order to sidestep political risks and—perhaps most crucially given today’s reflationary environment—they can manage duration flexibly to adjust the sensitivity of portfolios to changes in interest rates.
What characteristics should investors look for when selecting an unconstrained fixed income manager?
Finding the best opportunities in the $100 trillion global bond market requires a large global resource to generate ideas. However, it’s not enough just to have lots of boots on the ground. A successful unconstrained manager needs to be able to ensure that the best ideas from investors around the world are shared and compared on a consistent basis—and that these ideas are packaged into portfolios in a risk-controlled way.
At J.P. Morgan Asset Management, we use the same fundamental, quantitative and technical screens for all the bonds and sectors we cover globally. This framework provides a consistent language for assessing relative value opportunities. We also take a multi-dimensional approach to risk, ensuring portfolios are well diversified, while also keeping a close eye on the sensitivity or correlation of portfolios to several risk factors, including changes in market interest rates, changes in exchange rates and changes in credit spreads.
Where are you currently finding the most attractive opportunities, and where are you looking to reduce portfolio risk?
We believe stronger economic growth and rising interest rates will support demand for spread products—therefore we are finding most value at the moment in US high yield bonds, investment grade corporate bonds, convertible bonds, commercial mortgage-backed securities and, more selectively, in emerging market debt.
With interest rates likely to rise faster than anticipated, we also continue to be cautious on duration exposure. We think the Federal Reserve will raise interest rates three more times in 2017, helping push the 10-year US Treasury up from the current 2.3%-2.5% level towards 3.0%-3.5% by the end of the year.
In this environment, capitalizing on the opportunities and managing the risks as they arise requires the expertise and flexibility that an experienced unconstrained fixed income manager can provide.
Broaden the borders of your bond portfolio
To access the opportunities in global bond markets, investors may benefit from a fund with the flexibility to invest across the entire fixed income spectrum. Both the JPMorgan Global Bond Opportunities Fund and ETF dynamically allocate to the highest conviction ideas of its management team across 15 sectors and more than 50 countries.
Learn more about the JPMorgan Global Bond Opportunities ETF (JPGB) hereCall 1-844-4JPM-ETF or visit www.jpmorganetfs.com to obtain a prospectus. Carefully consider the investment objectives and risks as well as charges and expenses of the ETF before investing. The summary and full prospectuses contain this and other information about the ETF. Read them carefully before investing.
This document is a general communication being provided for informational purposes only. It is educational in nature and not designed to be a recommendation for any specific investment product, strategy, plan feature or other purpose. Any examples used are generic, hypothetical and for illustration purposes only. Prior to making any investment or financial decisions, an investor should seek individualized advice from a personal financial, legal, tax and other professional advisors that take into account all of the particular facts and circumstances of an investor’s own situation.