Global Short Duration strategy - July 2022
Market rebound fuelled by hopes of less aggressive tightening
- Credit spreads tightened on the back of hopes of a slower pace of interest rate increases in the US going forward
- Government bond yields were lower, being also supported by renewed recession talks
- The risk profile was broadly unchanged
Credit spreads tightened in July on the back of positive corporate earnings and hopes that the US Federal Reserve (Fed) would slow down its aggressive tightening of monetary policy in the face of a surprise fall in GDP, which pushed the US into a technical recession.
The Fed raised interest rates for a fourth consecutive time by 0.75% to the range of 2.25% to 2.50% as it remained steadfast in its decision to tame inflation. However, Fed chairman Jerome Powell said that a slower pace of increases will be likely “while we assess how our cumulative policy adjustments are affecting the economy and inflation”. Meanwhile, the European Central Bank raised interest rates for the first time in more than 11 years by 0.50% to 0.00% as it tried to control soaring inflation.
Despite inflation numbers accelerating once again, US treasury, German bund and UK gilt yields fell due to hopes of a slower pace of interest rate increases in the US going forward and renewed recession talks.
Portfolio positioning and performance
Sovereign: Our exposure to sovereign bonds was broadly stable at 12% (versus 13% last month) as we remained invested in US, German and UK inflation-linked bonds to benefit from still attractive inflation indexation over the next couple of months. We actively managed the duration of the portfolio during the month to benefit from the high level of volatility in government bond yields.
Investment Grade: Our exposure to investment grade markets was broadly unchanged at 47% (versus 48%) as activity was limited with only one new issue being bought in the US dollar primary market.
High Yield and Emerging Markets: Our exposure to high-yield and emerging markets was also broadly stable at 38% (versus 37%) as we added to US high-yield while slightly reducing our exposure to European high-yield and selling a Chinese State-Owned Enterprise. We are waiting for better entry points before adding back more to these asset classes.
We expect market conditions to remain very volatile over the short-term due to continued inflationary pressures, hawkish central banks, a protracted conflict in Ukraine and increased risk of a recession next year. In such an environment, it is paramount to retain flexibility and manage actively the duration and credit exposure.
As inflation should start gradually falling over the coming quarters, we expect yields to consolidate at these higher levels since they already reflect a very aggressive pace of tightening by central banks, helping credit spreads to also stabilise.
No assurance can be given that the Global Short Duration strategy will be successful. Investors can lose some or all of their capital invested. The Global Short Duration strategy is subject to risks including credit risk, liquidity risk and interest rate risk and counterparty risk. The strategy is also subject to derivatives and leverage, emerging markets and global investment risks.
What are short duration bonds?
A short duration bond is generally a bond with a short time to maturity. At AXA IM we define this period as 5 years or less.Find out more