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ixed income markets have gone through a painful transition, but the outlook is now a lot more positive. Volatility and risk are far from off the table,
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FIXED INCOME
Relocating the fixed income opportunity — the case for going global
Blue bonds: long-awaited innovation or yet to make a splash?
Bonds are back, although risks persist
“Volatility and risk are far from off the table, but higher yields have made safer, investment grade opportunities much more attractive”
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Disclaimer Past performance is not a guarantee or a reliable indicator of future results.The Fund will be actively managed in reference to the Bloomberg Barclays MSCI Global Green Bond Index as further outlined in the Prospectus and Key Investor Information Document. Performance and fees Past performance is not a guarantee or a reliable indicator of future results. Performance figures are presented net of management fees commissions, other expenses, and the deduction of actual investment advisory fees; but do not reflect the deduction of custodial fees. The "net of fees" performance figures above also reflect the reinvestment of earnings. All periods longer than one year are annualized. Separate account clients may elect to include PIMCO sector funds in their portfolio; sector funds may be subject to additional terms and fees. Charts Performance results for certain charts and graphs may be limited by data ranges specified on those charts and graphs; different time periods may produce different results. ESG Socially responsible investing is qualitative and subjective by nature, and there is no guarantee that the criteria utilized, or judgment exercised, by PIMCO will reflect the beliefs or values of any one particular investor. Information regarding responsible practices is obtained through voluntary or third-party reporting, which may not be accurate or complete, and PIMCO is dependent on such information to evaluate a company’s commitment to, or implementation of, responsible practices. Socially responsible norms differ by region. There is no assurance that the socially responsible investing strategy and techniques employed will be successful. Past performance is not a guarantee or reliable indicator of future results. For professional use only The services and products described in this communication are only available to professional clients as defined in the Financial Conduct Authority's Handbook. This communication is not a public offer and individual investors should not rely on this document. Opinion and estimates offered constitute our judgment and are subject to change without notice, as are statements of financial market trends, which are based on current market conditions. We believe the information provided here is reliable, but do not warrant its accuracy or completeness.The services and products described in this communication are only available to professional clients as defined in the MiFiD II Directive 2014/65/EU Annex II Handbook and its implementation of local rules. This communication is not a public offer and individual investors should not rely on this document. Opinion and estimates offered constitute our judgment and are subject to change without notice, as are statements of financial market trends, which are based on current market conditions. We believe the information provided here is reliable, but do not warrant its accuracy or completeness. PIMCO Europe Ltd (Company No. 2604517) is authorised and regulated by the Financial Conduct Authority (12 Endeavour Square, London E20 1JN) in the UK. The services provided by PIMCO Europe Ltd are not available to retail investors, who should not rely on this communication but contact their financial adviser. PIMCO Europe GmbH (Company No. 192083, Seidlstr. 24-24a, 80335 Munich, Germany), PIMCO Europe GmbH Italian Branch (Company No. 10005170963), PIMCO Europe GmbH Spanish Branch (N.I.F. W2765338E) and PIMCO Europe GmbH Irish Branch (Company No. 909462) are authorised and regulated by the German Federal Financial Supervisory Authority (BaFin) (Marie- Curie-Str. 24-28, 60439 Frankfurt am Main) in Germany in accordance with Section 15 of the German Securities Institutions Act (WpIG). The Italian Branch, Irish Branch and Spanish Branch are additionally supervised by: (1) Italian Branch: the Commissione Nazionale per le Società e la Borsa (CONSOB) in accordance with Article 27 of the Italian Consolidated Financial Act; (2) Irish Branch: the Central Bank of Ireland in accordance with Regulation 43 of the European Union (Markets in Financial Instruments) Regulations 2017, as amended; and (3) Spanish Branch: the Comisión Nacional del Mercado de Valores (CNMV) in accordance with obligations stipulated in articles 168 and 203 to 224, as well as obligations contained in Tile V, Section I of the Law on the Securities Market (LSM) and in articles 111, 114 and 117 of Royal Decree 217/2008, respectively. The services provided by PIMCO Europe GmbH are available only to professional clients as defined in Section 67 para. 2 German Securities Trading Act (WpHG). They are not available to individual investors, who should not rely on this communication.| PIMCO (Schweiz) GmbH (registered in Switzerland, Company No. CH-020.4.038.582-2) . The services provided by PIMCO (Schweiz) GmbH are not available to retail investors, who should not rely on this communication but contact their financial adviser.
“Net zero commitments are set to revolutionise the world of long-dated real assets”
ast year saw record issuances of green, social and sustainability (GSS) bonds. 2021 has been similar, reaching several new records. At the
fixed income
Professional Investors Only
table, but higher yields have in our opinion made safer, investment grade opportunities much more attractive, while high yield and emerging market bonds are offering greater recompense for their associated risks.
Opportunities and risks in an improved environment for fixed income
Fertile ground
The role of advisers in educating clients about responsible investment
FOR PROFESSIONAL INVESTORS ONLY
Spotlight on: fixed income at Capital Group
With that in mind, this guide takes a look at the some of the key themes in fixed income today.
First, Investment Specialist Marco Giordano outlines the risks that remain in the market, before summarising three key areas of opportunity. Then, Fixed Income Portfolio Manager Campe Goodman and Investment Specialist Will Prentis, discuss the potential for the blue bond market to grow in size and quality just as the green bond market has.
The views expressed are those of the author at the time of writing. Other teams may hold different views and make different investment decisions. The value of your investment may become worth more or less than at the time of original investment. While any third-party data used is considered reliable, its accuracy is not guaranteed. For professional, institutional, or accredited investors only. For professional, institutional and accredited investors only. Capital at risk. The views expressed are those of the authors and are subject to change. Other teams may hold different views and make different investment decisions. This material and its contents are current at the time of writing and may not be reproduced or distributed in whole or in part, for any purpose, without the express written consent of Wellington Management. While any third-party data used is considered reliable, its accuracy is not guaranteed. This commentary is provided for informational purposes only and should not be viewed as a current or past recommendation and is not intended to constitute investment advice or an offer to sell or the solicitation of an offer to purchase shares or other securities. Holdings vary and there is no guarantee that a portfolio has held or will continue hold any of the securities listed. Wellington assumes no duty to update any information in this material in the event that such information changes. In the UK, issued Wellington Management International Limited (WMIL), a firm authorised and regulated by the Financial Conduct Authority (Reference number: 208573). In Europe (ex. UK and Switzerland), issued by Wellington Management Europe GmbH which is authorised and regulated by the German Federal Financial Supervisory Authority (BaFin). ©2023 Wellington Management. All rights reserved. As of 01 January 2023.
FOR PROFESSIONAL ADVISERS AND TRUSTEES ONLY Phoenix Life Limited, trading as Standard Life, is registered in England and Wales (1016269) at 1 Wythall Green Way, Wythall, Birmingham, B47 6WG. Phoenix Life Limited is authorised by the Prudential Regulation Authority and regulated by the Financial Conduct Authority and the Prudential Regulation Authority. Phoenix Life Limited uses the Standard Life brand, name and logo, under licence from Phoenix Group Management Services Limited. © 2023 Phoenix Group Management Services Limited. All rights reserved. www.standardlife.co.uk
but higher yields have in our opinion made safer, investment grade opportunities much more attractive, while high yield and emerging market bonds are offering greater recompense for their associated risks.
Finally, Marco discusses why the new environment for fixed income may be making a global approach to fixed income more valuable.
For professional investors only
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ixed income is looking attractive once again, but risks, as well as opportunities, abound. Here’s what’s keeping us up at night – as well as where we see opportunities for fixed income investors.
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A number of sectors are offering opportunities despite a landscape peppered with risk, says Investment Specialist Marco Giordano
While tensions may have stabilised slightly, US-China relations continue to deteriorate and the structural trajectory of the relationship remains clearly negative. Meanwhile, the war in Ukraine continues, providing further scope for renewed volatility.
Geopolitical instability
the world of investing for several years, but the concept is not new for PIMCO. The bond house first offered clients a socially responsible version of one of its key funds as far back as 1991.
he idea of investing with environmental, social and governance (ESG) principles in mind has been gaining traction in
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As inflation remains globally elevated, policymakers in countries such as Sweden, Norway, Australia, New Zealand and Canada run the risk of overtightening, given the increased sensitivity of households to rate rises.
At the end of April, Bank of Japan (BoJ) Governor Ueda kept yield curve control unchanged and announced a comprehensive review of the BoJ’s monetary policy, to be completed in the second half of 2024. These announcements were taken as a dovish tilt by the market, causing the Japanese Yen to depreciate and Japanese Government Bonds (JGBs) to rally.
A shift in Bank of Japan policy
However, we believe what is happening in the Japanese economy should call for a more nuanced approach to interpreting what might come next: for example, Tokyo Core CPI has been at levels not seen since early 1980s, and nominal retail sales are growing faster than in the US. JGBs have long been the anchor for the global rates complex – if and when the BoJ shifts policy, this will likely have reverberations all over the world.
The spread between German and Italian 10-year yields has long been a gauge of the market’s confidence in the financial stability of Italy specifically, and of the euro area periphery more broadly. There were fears this spread would widen materially following the election of Prime Minister Giorgia Meloni in September, but in fact the spread has fallen substantially since then and remained rangebound so far this year.
A puzzling picture for Italian spreads
It’s a puzzling outcome, given Italy’s cash deficit has worsened and budget projections point to a further deterioration of public finances.
One explanation for spreads staying pinned is huge flows into Italian government bonds (BTPs) from Italian savers; approximately €70bn has been invested by households in Italian government bonds over the last six months, taking up nearly all net new issuance. As the ECB steps out of the market, the Italian saver seemingly steps in. This could potentially have an impact on bank deposits and, ultimately, could hinder the ECB’s efforts to tighten.
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Marco Giordano Investment Specialist
£43.8bn
This year, buy-in and buy-out volumes could exceed the record £43.8bn seen in 2019.
Source: LCP
A number of countries adopted accommodative policies for years in the wake of the financial crisis, even though their domestic cycle didn’t necessarily require such actions. This led to strong growth in leverage, household debt levels and financial asset prices.
Could policymakers be overtightening?
Find out more about Wellington's approach to fixed income
“If and when the Bank of Japan shifts policy, this will likely have reverberations all over the world”
Where we see opportunities
As an active manager, our view is dynamic, but we see the potential for pockets of opportunity within the following sectors:
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03 / 03
We believe that high yield and EM both remain attractive from an outright yield-to-worst perspective, but we expect continued volatility amid tightening financial conditions (along with geopolitical risk).
02 / 03
We believe investment grade corporate credit provides attractive valuations for issuers that have a low probability of default, despite heightened volatility. Rising geopolitical risk makes higher quality fixed income attractive from a recessionary and capital protection perspective. While inflation surprises still exist, a large portion of the move in global rates has likely already occurred, providing substantial cushion and carry.
01 / 03
We continue to believe that this is the environment for global sovereign and currency strategies to continue to shine, from a total return perspective, a risk diversifiers approach, as well as from a safety and soundness perspective.
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Blue bonds - a long-awaited innovation?
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The case for a global fixed income approach
Blue bonds could play a critical role in protecting marine biodiversity
interested in blue bonds, which aim to support projects related to ocean protection and conservation.
onds that finance specific sustainability-focused projects or activities – also known as use-of-proceeds bonds – are on the rise. Green bonds remain the most popular form of use-of-proceeds bond, but investors are increasingly
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Head of Fixed Income at Capital Group.
n 2022, we saw disinvestment and losses for bond funds. But looking forward, we can be optimistic about a year of reinvestment and opportunity, according to Mike Gitlin,
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One area where we remain cautious: the debt-for-nature swap. This type of structured deal typically involves a creditor providing a government with debt relief in return for a commitment to use some of the debt savings to finance ocean conservation. Because the structure is complex, however, it’s typically expensive to implement. In many cases, the benefit for the blue economy appears to us to be small relative to the size of the transaction.
As we look forward, we see reason for hope. As blue bond structures become simpler and more standardised, investors like us should find it easier to measure and report on the impact that our investments are having.
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We met with Wellington's Campe Goodman, Fixed Income Portfolio Manager and Will Prentis, Investment Specialist, to examine the opportunity.
Year-on-Year Growth in External Transactions
2017
2018
2019
2020
2021
2022
0.8
1.2
2.2
1.8
2.5
4.0
5.5
4.2
4.8
Standard Life external BPA volumes
Total Standard Life BPA volumes
£6bn £5bn £4bn £3bn £2bn £1bn 0
Will: While green bonds traditionally finance projects related to broad environmental objectives, blue bonds raise capital for projects specifically supporting the blue economy: the sustainable use of ocean resources for economic growth, improved livelihoods and jobs while preserving the health of the ocean ecosystem.
We've heard of green bonds, but what is a blue bond?
Will: Our oceans and seas play a crucial role in the world's economy, driving sectors such as fishing, transport, tourism and renewable energy, and providing both natural resources and employment. Data from the UN Global Compact estimates that the blue economy represents around 2.5% of global GDP - comparable to a country in its own right.
Why is the blue economy so important for investors?
Blue bonds can be issued by sovereigns, development banks, corporates or other organisations. For investors, blue bonds offer a way to potentially earn a financial return while also supporting sustainable development and environmental conservation.
For the productive use of our oceans to continue, the health of the ocean ecosystem must be preserved. Yet SDG 14: Life Below Water, receives the lowest long-term funding of any of the UN Sustainable Development Goals. There is a critical funding gap for an environmental challenge that disproportionately affects the world’s poorest.
For each bond we analyse, we determine the fit with the three key tenets of our impact philosophy: materiality, additionality, and measurability. We ask: to what extent are the bond’s proceeds aligned with our impact themes? Is financing directed towards ongoing or future projects? Are the projects going above and beyond the ordinary course of business? Can we measure and track key performance indicators of impact?
Campe: There’s a real need for investment in the blue economy. However, we’ve seen time and again that innovations in sustainable investing need time to mature. A label – even from a well-known sustainability rating company – doesn’t guarantee impact.
What do investors need to know before investing?
Label or not, we continue to advocate a bottom-up, research-driven approach to impact investing. We believe in taking a thoughtful, independent approach to each investment opportunity, and in putting capital to work to meet both impact and financial objectives.
Campe: Growth and innovation in blue bonds is a prime example of how the supply of impact investments is increasing in the public fixed income markets. We believe today’s green bond market is larger and higher quality than the green bond market of five years ago, and we’re optimistic that blue bonds will follow a similar arc.
How would you summarise the opportunity within blue bonds?
Will Prentis, Investment Specialist
Campe Goodman, Fixed Income Portfolio Manager
“We continue to advocate a bottom-up, research-driven approach to impact investing”
“There is a critical funding gap for an environmental challenge that disproportionately affects the world’s poorest”
FIND OUT MORE ABOUT WELLINGTON'S SUSTAINABLE FIXED INCOME CAPABILITIES
Relocating the fixed income opportunity – the case for going global
Geographical diversification looks ever more valuable given shorter cycles and rising rates in Europe, according to Marco Giordano, Investment Specialist
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Central banks are at different stages of the cycle. The US may potentially face a meaningful tightening in credit conditions, potentially prompting the Federal Reserve (Fed) to end its hiking cycle. In Europe, the European Central Bank (ECB) is starting to reduce its balance sheet, following a decade of significant purchases. The reversal of that support, along with further monetary policy tightening, could represent a significant headwind for European rates.
This new macroeconomic regime will likely present shorter and more pronounced cycles and a greater occurrence of idiosyncratic risk – whether from country, sector or individual issuer. Geographical diversification may be an important consideration.
fter a painful transition away from the lower-for-longer environment, fixed income appears to have regained its footing. Bonds look attractive from both a diversification and income perspective, with yields at multiyear highs across all
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sectors. So far, so good, but the recent US regional bank crisis is the latest in a series of events that remind us that bond investors face a new, more volatile normal.
Actively pursuing global fixed income opportunities may be particularly attractive for European investors. Rates across Europe appear to have upward momentum relative to the US, while hedging costs may become materially lower.
Until recently, yields in European core fixed income seemed to be on a permanent downward path, but European sovereign yields have now returned to relatively attractive levels. Conversely, global allocations have been punished by the strength of the US dollar.
Four reasons why going global could pay off
However, looking ahead, we think that diversifying domestic or regional exposures may be more rewarding for European bondholders. In our view, the new regime creates four compelling reasons for fixed income investors to seek global diversification.
The outlook for inflation remains muddier than in previous recessions. In this environment, home biases may be overly reliant on past assumptions; for example, over the past decade the euro area has been a source of disinflation for the world. This appears to be reversing, with headline and core inflation now consistently above the G7 average.
We see elevated levels of volatility and continued event risk on the horizon, such as the potential for further difficulties in pockets of the banking system, the continuing war in Ukraine and multiplying instances of social and political instability as populations across the world face a growing cost-of-living crisis. Pivots in central bank policy may generate opportunities but also risks: most notably the Bank of Japan’s (BOJ’s) imminent exit from its long-standing policy of yield curve control.
These events are all trigger points for renewed volatility, which active diversification across different regions may help mitigate.
As the ECB catches up to the Fed in its monetary tightening cycle, a reduction or tightening in US-Europe short-term rate differentials should contribute to lower hedging costs for Europe-based investors investing in global fixed income markets. European fundamentals remain fairly resilient, in our view supporting continued outperformance of the euro and most other European currencies versus the greenback, facilitating lower hedging costs as a result.
Managing global exposure effectively requires a deep understanding of global and local markets as well as macro and geopolitical expertise. An active approach may be particularly relevant for European investors, as they navigate a very different policy environment with significant divergence between countries and sectors.
How to manage a global exposure
EURO AREA INFLATION NOW SURPASSES THE G7 AVERAGE
Source: Refinitiv, April 2023.
Headline inflation euro area vs G7 average (%)
Difference between average headline inflation in euro area and in G7 over different periods
“An active approach may be particularly relevant for European investors, as they navigate significant divergence between countries and sectors”
Marco Giordano, Investment Specialist
1. Access opportunities across an inconsistent global policy landscape
2. Position for less predictable inflation ahead
3. Take advantage of opportunities to navigate volatility and event risk
4. Benefit from lower hedging costs
FIND OUT MORE ABOUT WELLINGTON'S FIXED INCOME CAPABILITIES
Green bonds remain the most popular form of use-of-proceeds bond, but investors are increasingly interested in blue bonds, which aim to support projects related to ocean protection and conservation.
onds that finance specific sustainability-focused projects or activities – also known as use-of-proceeds bonds – are on the rise.
