(Bloomberg) — The prospect of global interest rates remaining high for longer is encouraging many investors to shift to bonds from stocks.
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Fixed income provides a return premium of 180 basis points over dividend returns from equities, according to data compiled by Bloomberg. This is the widest in 15 years, and the gap is likely to persist or even widen as traders bet that the era of low interest rates has come to an end.
Investors ready to make the shift have had to endure a brutal bond sell-off that shows little sign of abating. The latest EPFR Global data suggests that this turnaround, even if it has been costly in recent months, is taking place as debt funds reel for the 21st consecutive week of inflows, while their equity peers have posted outflows of about $2.2bn. In major markets, investors expect yields to return to pre-global financial crisis levels.
“Even investment-grade bonds give you stock-like returns,” with half the volatility, Sanjay Goglani, CEO of Silverdale Capital Pte Ltd, a Singapore-based fund manager that manages about $1 billion in assets, told Bloomberg. the television. ‘This dawned a new era for fixed income, we haven’t had such fantastic returns in nearly 20 years.’
Global bonds offer an average yield of 4.0%, data compiled by Bloomberg show, nearly double the 2.2% dividend yield for the MSCI ACWI. Fidelity International points out that positive real returns make the case for Treasuries more convincing.
The next signal for traders is likely to come when the world’s top central bankers gather at the annual Jackson Hole Symposium from Thursday to discuss the outlook for monetary policies. Federal Reserve Chairman Jerome Powell is scheduled to speak on Friday.
The years after the global financial crisis, when policymakers looked to revitalize economies and combat weak price pressures with ultra-low interest rates, were the heyday for equities, according to a measure comparing bond yields and dividend yields.
But the relationship was upended in early 2022, when the Fed began its most aggressive tightening campaign in four decades. This is because investors are betting that higher borrowing costs will stifle economic growth and dampen corporate earnings.
The prospect of borrowing costs rising further – with the release of Fed minutes on August 16 showing interest rate setters still largely concerned about inflation – has dragged stocks lower in recent weeks. The MSCI index of developed and emerging market stocks is down more than 5% so far this month.
“Across all regions we’re seeing some shifts from equities to buying high-quality credit,” said Adam Whiteley, head of global credit in London at Insight Investment, a subsidiary of BNY Mellon. “In the current environment of high inflation and economic uncertainty, investors are definitely looking at bonds as a relatively safe asset that can provide an alternative to equities.”
But there is still a lot of debate about the direction of interest rates. Treasury yields fell on Wednesday as US data lagged economists’ expectations and Citigroup noted that a short squeeze could emerge after the recent build-up in bearish bets.
In turn, stock traders had reason to rejoice after bullish earnings expectations from Nvidia Corp. sent S&P 500 and Nasdaq 100 futures higher. Shares of the chipmaker rose 10% in after-market trading in the US on Wednesday after it filed Third consecutive sales forecast that beat Wall Street estimates.
Skeptics also point out that Japan is an anomaly. Equity funds posted a 10th week of inflows in the week ending August 16, according to data from EPFR. Meanwhile, debt funds saw the largest inflow in two years in the week ending Aug. 9.
This followed the Bank of Japan’s move in July to loosen its grip on bond yields – a decision that is expected to strengthen the yen over time and make domestic assets more attractive. The positive sentiment pushed the yield spread between bonds and equities to near its lowest level in more than two years.
With the exception of Japan, Asia may offer a value proposition for those defending stocks. “The region’s payout ratios are among the lowest globally, so the long-term dividend growth story here is very compelling,” said Sat Dohra, fund manager at Janus Henderson Investors.
Meanwhile, as the prospect of a recession receded in the US, and as large federal budget deficits rose, leading to an oversupply of Treasury debt, bond yields rose.
Tightening bets is also driving up interest rates at the front end of the curve, with the policy-sensitive 2-year Treasury yield surpassing 5% this week.
“We’re looking at the upside slide starting, and it may actually happen before the Fed starts cutting rates,” Kristi Tan, Asia-Pacific investment expert at Franklin Templeton, told Bloomberg TV. “There is room for the longer end of the yield curve to actually continue to generate income as well as higher yield.”
–With assistance from Abhishek Vishnoi and Hari Suhartono.
(Updates of stock and bond market movements in paragraphs 11 and 12)
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