Fixed income

How short duration bond strategies could help navigate coronavirus volatility

Whatever it takes

Central banks and governments around the world have put in place unprecedented monetary and fiscal stimulus for countries hit by the coronavirus pandemic.

The Federal Reserve cut interest rates twice in March, taking the federal funds rate to between 0% and 0.25%. The US central bank also promised unlimited quantitative easing (QE), including the purchase of corporate and municipal bonds.

The European Central Bank initially added €120bn to its existing asset purchase programme of €20bn a month. It subsequently added a further €750bn in QE and removed a cap on the number of bonds it can buy from any single Eurozone country.

Other central banks have implemented extraordinary monetary policy measures, while governments around the world approved emergency aid packages aimed at helping the economy and their citizens hit by the coronavirus crisis. Markets have responded to such stimulus and investors’ sentiment improved on news that some countries would start to ease lockdowns.

How short duration strategies could help mitigate risk

Markets have lost considerable ground since late February and remain volatile in the short term.

Many fixed income asset classes currently offer negative yields. However, short duration strategies could help mitigate the risks associated with market volatility, which we expect will remain in the coming months.

During the recent market turmoil, short duration bond prices were heavily impacted by the equity market sell-off. However, we believe that this has also created potentially attractive opportunities as some assets are beginning to show value; as a result, there is potential for a pricing rebound.

Short-dated bonds could benefit from attractive valuations and risk premiums in the primary market, as companies have started to issue bonds again at attractive levels. In fact, despite warnings about disappointing first-quarter results, many companies are taking action to fight the negative impact of COVID-19 on their earnings, notably through capital expenditure reductions, dividends or share buyback cuts and a review of their operating costs.

Furthermore, companies are proactively drawing down on revolving lines of credit and other sources of financing to put cash on the balance sheet. On the downside, rating downgrades are rising, and financial leverage will increase despite all these measures.

Our short duration strategies are a potential way for investors to mitigate risks in this market environment where volatility prevails over directionality. They can potentially allow investors to benefit from the most appealing carry opportunities." 
Marion Le Morhedec, Head of Active Fixed Income Europe and Asia

Our Fixed Income View

The central banks’ unprecedented support for government and corporate bonds, looks to be providing the necessary liquidity in the financial markets to face the uncertainty. It should support yields at their current low levels, even though we expect volatility to continue.

While central bank and government stimulus is massive for corporates, ratings agencies have started to re-assess companies’ fundamentals to the downside and some sectors – like energy, airlines, automotive and leisure - will be strongly impacted. Within our global fixed income strategies, we have an overweight exposure to US corporate bonds, which widened twice as much as Europe [1]. We also participated in the primary market, which has reopened with very attractive premiums on high-quality names.

In Europe, all sovereign issuers should benefit from central bank support, even if the Eurozone sustainability could be questioned again in the coming months, and even if the level of debt is a legitimate concern.

Despite limited inflationary risk for the coming months, we believe US and French inflation-linked bonds are attractive as they have aggressively repriced the inflation outlook - due to the macroeconomic environment, as well as the renewed oil price war and ongoing tensions between Saudi Arabia and Russia.

Emerging markets have suffered strong outflows, which, given the liquidity issues, has impacted performance. In addition to the pandemic, the asset class was impacted by the renewed oil price war.

AXA IM’s short duration bond strategy range

AXA Investment Managers offers a range of short duration strategies which aim to meet your needs, whether you are looking for a higher yield or to combat inflation. Our short duration strategies generally invest in bonds with maturities of five years or less and seek to capture high current income with low overall volatility. The result will be portfolios with a duration that is generally below three years.

  • Global

For investors looking for income opportunities across the entire global short duration bond spectrum, while aiming to mitigate market volatility.
 

  • Investment Grade

For investors looking to take the first step on the credit ladder. These strategies can offer a yield enhancement to a cash alternative while, at the same time, aiming to minimise overall volatility.
 

  • High Yield

For investors seeking the opportunity to capture an attractive income and carry from the high yield asset class, while mitigating volatility.
 

  • Emerging Markets and Asia

For investors looking to participate in diversifying asset classes through a volatility mitigation and high carry strategy.
 

  • Aggregate

For investors seeking an opportunity for income from euro-denominated government bonds and corporate debt with reduced sensitivity to interest rates.
 

  • Inflation

For investors looking to mitigate the impact of both inflation and volatility on their portfolio, while participating in a diversifying asset class.

Sources:

[1] AXA IM, as at 6 April 2020

 

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