Fixed Income Archives | International Adviser https://international-adviser.com/category/investment/fixed-income/ The leading website for IFAs who distribute international fund, life & banking products to high net worth individuals Mon, 20 Jan 2025 12:17:50 +0000 en-US hourly 1 https://wordpress.org/?v=6.7.1 https://international-adviser.com/wp-content/uploads/2022/11/ia-favicon-96x96.png Fixed Income Archives | International Adviser https://international-adviser.com/category/investment/fixed-income/ 32 32 Geoff Cook on global trends amid Trump inauguration https://international-adviser.com/geoff-cook-on-global-trends-amid-trump-inauguration/ Mon, 20 Jan 2025 12:17:50 +0000 https://international-adviser.com/?p=313895 As 2024 recedes into the memory, a decisive moment in global politics is upon us: Donald Trump will be returning to the White House on 20 January, says Geoff Cook (pictured), chair of Mourant Consulting.

Trump’s return will transform US domestic policy and reverberate through the international system by up-ending trade, investment, and geopolitical risk patterns. These changes will affect private capital investors, including those operating in small-state international finance centres (IFCs), who must gauge their response.

They also provide the headline for five significant trends — Trump, Tariffs, Tax, Tech, and Trade – poised to take their place at the centre of the global investment stage through 2025 and beyond.

Trump: ‘America First’ And The Reconfiguring of Global Risk

The return of Donald Trump to the Presidency will herald a transformative pivot to a shifted global environment, now more nationalistic and protectionist. Trump’s “America First” agenda – built upon the principles of rewriting trade deals, breaking away from international accords and placing U.S. interests ahead of multilateralism – will bring geopolitical risks and opportunities back to the forefront of the 2025 agenda.

Trump’s presidency will make for a choppier investment environment for private capital investors. In his first term, we witnessed a transactional model of global relations manifested in trade wars, diplomatic tensions and bouts of financial volatility. If, in 2025, his policies are still focused on limiting foreign competition and combating global interdependence, investors should remain on guard for ripple effects.

On the upside, this political shift might be a boon for small-state IFCs. Countries with favourable tax policies, regulatory flexibility, and a track record of attracting capital in times of political instability will become ever more attractive to investors seeking safe harbours or alternative pathways into markets that are heavily impacted by shifts in U.S. policy.

Tariffs: We Are Still In The Age of Protectionism And Supply Chain Shocks

One of Trump’s most consequential legacies from his first term was his aggressive push to raise tariffs, including in his trade war with China. When he returns to office in 2025, tariffs will likely remain a significant tool of U.S. foreign policy. The immediate fallout will wash through international commerce, spanning matters as diverse as EVs, cell phones and agriculture, as Trump pursues more protectionist policies while limiting American reliance on foreign suppliers.

These developments will be a double-edged sword for small-state IFCs. Tariffs can disrupt global supply chains, rendering certain regions or industries less competitive and reorienting trade patterns. They can also boost inflation and prices in the short term, negatively impacting the cost of living. Still, investors could see new opportunities in jurisdictions playing a role as alternative manufacturing hubs or trade gateways. If manufacturing relocates, the investment that supports it will flow to the U.S., potentially via IFC conduits. Southeast Asian or African countries might also benefit as American companies seek to lessen their exposure to steep Chinese tariffs.

However, the spillover effects of tariffs – especially if they’re directed at a vital sector, like technology – could include market turbulence and price hikes. Private capital investors must brace for supply chain disruptions in sectors reliant on Chinese or other global suppliers and diversify their portfolios to minimise the fallout. Companies examining ways to move production away from tariff-heavy markets for their cost-effectiveness and efficiency will be in demand. At the same time, small-state IFCs with strong capital management and deployment capabilities can play a key role in meeting the growing demand for new investment capital flows as production shifts to new locations.

Tax: The New Global Tax Order And Its Impact On Investment Flows

Seismic change is underway on the global tax front, and Trump’s return will almost certainly challenge this process. Although the OECD’s promotion of a global minimum tax rate of 15% has been a strong theme over the last several years, Trump’s administration will likely re-examine the subject, particularly as he strives to keep U.S. businesses competitive internationally through a two-tier corporation tax system. Domestic ‘Made in America’ firms could benefit from a 15% CIT whilst foreign players may still have to bear the current 21% rate.

For small-state IFCs, Trump’s return may elevate interest in jurisdictions that offer favourable tax regimes for multinational corporations, low or no tax rates on capital gains, and/or more benign tax-neutral regimes. Small-state IFCs are well placed to offer both a capital-friendly tax environment and a robust and rich financial infrastructure to attract and channel capital flows from investors.

But Trump’s approach also risks forcing the U.S. into renegotiating tax treaties and pursuing more aggressive tax policies domestically. The great unknown is how markets will react to a perpetuation of the Tax Cuts and Jobs Act and a raft of new tax-cutting measures, adding to the steep tax cuts from the first Trump administration due to run out in 2025.

Much of the cuts, at least initially, will be funded by increased borrowing. Will the bond markets be prepared to bankroll the additional borrowing needed, given that the U.S. debt servicing is already set to exceed 6% of GDP? Interest payments will exceed military spending for the first time in U.S. history, and this will surely be a test for the mighty dollar.

Tech-tonics: Jump-starting Investment In Technology Will Raise Geopolitical Friction

With technology increasingly shaping the global economy, a China vs U.S. tech standoff will almost surely speed up the trend toward a technological decoupling of the two major global economies, one that will probably be most pronounced for China. The technological ‘Cold War’ that started during Trump’s first term — focused on AI, 5G and semiconductors — will continue through 2025, altering the flow of global investment and the nature of innovation ecosystems.

The changes could create a unique opportunity for private investors to ride the tech-driven growth wave, especially in the future mega-sectors such as artificial intelligence, quantum computing, biotech and its supporting infrastructure. The geopolitical and market risks of tech investments will also increase. Corporate adoption still lags personal consumption (75% of all ChatGPT subscribers are personal) and investment to date of $1.5trn shows lots of promise but little by way of tangible near-term profits. AI remains an exciting but nascent and rapidly evolving technology that still has, for many, to prove its real-world impact.

Among the things to keep an eye on will be the rise of tech startups and venture capital in smaller-state IFCs. A proactive approach by jurisdictions such as Singapore and the Cayman Islands has made them attractive destinations for fintech, blockchain and other technologies. These smaller centres could strengthen their positions as key players in the global tech investment firmament amid geopolitical tensions.

Trade: Increasingly Regional, National And Protectionist

Global trade winds will blow differently in 2025, beset as they are by fractured trading blocs and regional alignments. Bilateral trade deals – instead of multilateral agreements – may take precedence, increasing export tensions between the West and other powers, including China and Russia. In this environment, the future of the WTO is not assured.

Disruption may open new avenues for small-state IFCs to play an intermediation role in leveraging regional trade agreements. Traditional financial systems might find it challenging to meet the needs of the new economy. The rise of digital trading hubs in smaller IFCs will be a boon for investors as these hubs are gaining traction in regions such as southeast ASIA, Africa and the Middle East, where emerging markets are making inroads into conventional trade routes.

2025 will also see further evolution in trade finance. The shift towards digitised trade and persistent political friction will drive demand for more secure, transparent trade finance solutions, which small-state IFCs are well-placed to offer. The remainder of this decade will be critical for the embedding and establishment of all things crypto, with the tailwinds of a supportive U.S. president and a more benign regulatory environment. Understanding how these new trade routes and financial instruments will develop will be a key to accessing growth areas in an increasingly fragmented global marketplace for private capital investors.

Wrap-Up: The Times They Are A-Changin’

2025 will be a year of significant change in global events, trade and investment. The re-entry of Donald Trump into the White House will bring back his brand of nationalism, protectionism and a more transactional approach to foreign relations, all of which will have significant implications for the shape of investment markets. Private capital investors, including those operating through small-state IFCs, will have to alter their strategies in a world redefined by geopolitical risk, technological disruption, and new tax and trade paradigms.

Small-state IFCs offer a unique blend of regulatory flexibility, tax advantages, relative political stability, and investment potential. These make them an attractive option for investors looking for alternatives to larger, more volatile markets. Still, private capital investors will need to know how to prosper in an altered world of Trump, Tariffs, Tax, ‘Tech-tonics’ and Trade.

Adaptability, foresight and strategic diversification will be the keys to success in 2025.

By Geoff Cook, chair of Mourant Consulting

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St. James’s Place aligns fund with SDR label, changes external manager https://international-adviser.com/st-jamess-place-aligns-fund-with-sdr-label-changes-external-manager/ Mon, 13 Jan 2025 13:39:33 +0000 https://international-adviser.com/?p=313687 St. James’s Place (SJP) said today (13 January) it is set to adopt the Financial Conduct Authority’s (FCA) Sustainability Disclosure Requirements (SDR) Sustainability Focus label on its Sustainable & Responsible Equity (SRE) fund and will change the external fund manager.

The changes – which will come into effect from 24 February 2025 – will improve diversification, introduce a more balanced blend of investment styles, while maintaining the focus on sustainability, which is required to meet the FCA’s new higher threshold for sustainable investments.

Schroders will be added as the sole manager of the fund. The fund will invest in Schroders global sustainable growth and global value equity investment strategies. By blending the two investment styles, the range of companies the fund can invest in will increase.

Ongoing charges will reduce by 0.01% as a result of these changes.

Justin Onuekwusi, chief investment officer at St. James’s Place, said: “The bar to be a labelled fund is very high and will help clients to better understand how their money is being invested in companies that aim to deliver a positive outcome for people and the planet.

“Schroders is a well-regarded expert of sustainable investing, with a diversified approach. They have depth of experience across different equity investment strategies, which can provide a more balanced blend of investment styles for the fund.

“We’d like to thank the team at Impax for their expertise, partnership and their key role in the success of the fund to date. We continue to see Impax as a leader in investing in the transition to a more sustainable economy and a key partner for us in the future.”

 

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As rates fall, where can investors find attractive yields in 2025? https://international-adviser.com/as-rates-fall-where-can-investors-find-attractive-yields-in-2025/ Fri, 13 Dec 2024 14:26:20 +0000 https://international-adviser.com/?p=312919 For central banks around the world, the rate-cutting cycle is in full swing after the battles waged against inflation in 2021 – 2023 appear largely won, says Shannon Kirwin, associate director of fixed income strategies, Morningstar.

The European Central Bank executed its fourth rate cut in a row on December 12th, bringing its key cash rate to 3.15%. The US Federal Reserve lowered interest rates in September and November, bringing the federal-funds effective rate to 4.64% as of the end of November. Morningstar’s economics team expects this rate to fall to the 4.25%–4.50% range by the end of 2024, 3.00%–3.25% by the end of 2025, and 2.00%–2.25% by the end of 2026.

These developments signal a return to normalcy for fixed income markets after a period of elevated short-term yields. However, they also mean a substantial reduction in the income generated by bank deposits.

That could be an unwelcome wake-up call to some investors, many of whom are still sitting on elevated piles of cash. According to the Investment Company Institute, money market fund assets rose to roughly USD 6.5 trillion by October 2024.

A closer look at net monthly money market fund flows highlights that investors still have not unwound large cash hoards after the height of the covid pandemic.

History suggests that keeping assets in cash rather than investing in longer-dated bonds rarely pays off for those with longer-term investment horizons. But given where many developed-market government yields currently are, the arguments for moving out along the yield curve are especially compelling.

Should expectations for continued rate cuts play out, investors would benefit by shifting asset into longer-term fixed-income bonds to maintain higher income levels. For example, the 10-year US Treasury yield stood at 4.2% at the end of November.

If we assume a 1% term spread (the difference between shorter and longer-term bond yields to account for the risk of longer-term investments), that implies an expected average federal-funds rate of 3.2% over the next 10 years.

By contrast, Morningstar expects the federal-funds rate to average 2.3% over the next 10 years. Consequently, longer-term government bonds appear to offer an unusually high return relative to cash deposits.

In particular, the intermediate segment of the US Treasury yield curve (bonds with a five- to seven-year life) offers an attractive risk/reward balance as there is the opportunity for price appreciation without the larger drawdown risk that 30-year bonds carry if rates were to unexpectedly increase.

That’s not to say that all corners of fixed income markets are flashing “go.” Global corporate debt spreads—a measure of the risk premium corporate issuers offer as compensation for their added credit risk relative to government bonds—are at their tightest level since 2005, as market expectations for more robust economic growth and supportive central bank policies have driven demand for the asset class.

Some of the market’s riskier segments are even pricier; US high-yield corporate bonds are at their tightest level in history, for example. Though it’s not a sure thing that prices will fall in the coming months, a healthy dollop of caution is warranted whenever assets appear this expensive.

Because there’s a limit on how much pricier bonds can get, credit assets have an asymmetric risk profile: limited upside coupled with significant downside risk should the economy experience a hard landing.

What areas of the global bond market are still offering potential bargains? By some measures, there are attractive opportunities to be found among select local-currency emerging-market sovereign bonds, where nominal yields are often higher than prevailing inflation and central bank inflation targets.

Sovereign issuers with positive real yields include Brazil, whose five-year bond yield of 13.3% looks compelling against an inflation rate of 4.4%, and Mexico, which is issuing five-year debt with a yield of 10.4% against CPI of 4.6%. (By contrast, Japanese real yields are negative and there is a reasonable probability of further interest-rate hikes in that country in 2025 if this persists.)

However, owning local sovereign bonds generally means taking on exposure to local currencies as well, which for emerging-market assets can often be highly volatile.

In conclusion, investors looking to shift their cash into higher-yielding fare haven’t missed the window to do so, particularly if that means moving into high-quality, intermediate-term government fare. There are pockets of potential value among riskier, emerging-markets debt, but such allocations should never make up the bulk of an individual investor’s portfolio given the asset class’s inherent volatility.

High-yield corporate debt is also well-suited to play a supporting role in a well-balanced portfolio, though it looks expensive at the moment. Still, while current data suggests that lower-quality credit fare might be on the road to a near-term market correction, most investors are probably better off deciding on a long-term strategic asset allocation and diving in, rather than attempting to perfectly time a market entry.

By Shannon Kirwin, associate director of fixed income strategies, Morningstar

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The coming of age of emerging market credit https://international-adviser.com/the-coming-of-age-of-emerging-market-credit/ Fri, 22 Nov 2024 15:29:05 +0000 https://international-adviser.com/?p=312179 High global (and especially US) interest rates generally drive capital away from emerging markets (EM) as developed markets (DM) investors can realise higher risk-adjusted returns at home, says Mali Chivakul, emerging markets economist at J. Safra Sarasin Sustainable Asset Management.

There is strong empirical evidence that higher US rates and the associated strengthening of the US dollar lead to a tightening in global financial conditions and a decline in cross-border and dollar lending. The sudden reversal of capital flows has repeatedly caused financial crises in EMs. EM external borrowers, both public and private, were usually caught with a depreciating local currency and a weaker economy, limiting their ability to repay their debt in foreign currency.

EM economies have evolved over the years, however. Greater domestic financial market depth as well as increased access and efficiency have allowed major EMs to overcome the so-called ‘original sin’, or a country’s inability to borrow from abroad in its own currency. As a result, they have become less sensitive to US rates and the US dollar as local market borrowing acts as a cushion for these EM borrowers.

Not every EM borrower can borrow in his own currency, however. Smaller firms and lower-income countries with less developed capital markets continue to rely on external borrowing in hard currency. Defaults and financial distress among frontier borrowers are a testament that high US rates are still a binding constraint for less-developed EMs.

Emerging markets resilience

During the latest bout of US rate increases over the last two years, borrowers in major EMs have been remarkably resilient. On the corporate side, there was a clear shift towards local currency issuance. India, Thailand and Brazil accounted for more than two thirds of all local-currency corporate bond issuance since 2022 in EM, according to an International Finance Corporation (IFC) study. The trend towards local currency borrowing was already apparent among Asian corporates even before the pandemic.

The new borrowing pattern has partly shielded these firms from a tightening of global financial conditions. It is therefore not surprising that EM hard currency bond issuance has fallen significantly in the last two years. Issuance picked up again in September when the Fed started its rate-cut cycle.

Default data from S&P indeed suggest that EM corporates have weathered the tightening of global financial conditions in the last two years very well, especially when compared to the 1990s and the global financial crisis period. There has been no default among EM investment-grade bonds since 2016. More recently, for speculative grade bonds, the default rate in EM only exceeded that of global high-yield bonds in 2022.

In 2023, the EM corporate bond default rate at 2.1% was much lower than global high yield’s default rate at 3.7%. The overall default rate of 1% in EM (against 1.9% in global bonds) in 2023 is a good evidence of EM resilience.
Do we expect EM firms to continue to be robust? This will depend on the health of EM firms and the global macro-outlook. Currently, larger EM firms appear financially healthy.

The IFC study, which covers publicly traded companies in EM, finds that interest coverage ratios have returned to a level comparable to the pre-pandemic level despite higher interest payments as a share of total debt. Another study by the International Monetary Fund (IMF) suggests that the share of EM corporate debt with an interest coverage ratio below one has grown over the last two years, implying that there is a growing pocket of firms that are struggling.

The increase is lower for EMs outside China, suggesting that Chinese real estate debt may account for some of the increase. At the aggregate level, EM financial leverage has increased with corporate debt as a share of GDP rising since 2019 in most EMs. Higher debt could make them more vulnerable to external shocks.

A benign global backdrop

While the global backdrop continues to be supportive of EM corporates, there are a number of risks on the horizon. A soft landing in the US (and falling rates), a slight improvement in Europe, and the policy pivot in China are positive for EM. Of course, the elephant in the room is a potential new trade war, to the detriment of global growth and corporate profitability. EMs in particular are vulnerable to tariffs as they usually depend more on trade to grow.

Higher tariffs would add to input costs and reduce firm profitability. The IMF’s recent simulation suggests that a global trade war could lead to a higher share of debt with the interest coverage (ICR) ratio below one.

Indeed, not all EM firms will be affected equally: China, Mexican and Asian manufacturers (Korea, Malaysia, Taiwan, Thailand, and Vietnam) would be impacted the most by a new global trade war, while commodity producers in Latin America are less affected. Tradeable sectors will be more affected than non-tradeable sectors or services sectors.

By Mali Chivakul, emerging markets economist at J. Safra Sarasin Sustainable Asset Management

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Three themes for bond investors from the US election https://international-adviser.com/three-themes-for-bond-investors-from-the-us-election/ Fri, 08 Nov 2024 12:33:11 +0000 https://international-adviser.com/?p=311621 The global economy is worried about tariffs. Talk of tariffs on US president-elect Trump’s nemesis, China, of 60%+ and 10% for the rest of the world, is protectionism at its finest. It will likely lead to inflation, whilst open economies could potentially get flooded initially with over supplied goods looking to find a home, says Lloyd Harris, head of fixed income at Premier Miton Investors.

That said, tariffs are likely to be reciprocated exacerbating and accelerating the rate of global de globalisation. This is bad for exporting nations such as Germany who are already facing structural headwinds as their economy struggles to move away from one built on cheap Russian energy to one with no discerning competitive advantage. The economy is over leveraged to autos, chemicals and industrials – all of which are struggling in the wake of higher electricity prices.

US retailers generally do not manufacture their products domestically; currently, 24% of all US apparel and 34% of footwear is sourced from China alone. While some companies have recently diversified their supply chains to include other Asian countries like Bangladesh and India, these changes may be insufficient if Trump’s tariffs extend to additional countries. Mass producers of footwear and apparel, such as Nike, Adidas, and Puma, lack the infrastructure to shift production to the US quickly and efficiently. Relocating operations would lead to substantial disruptions in distribution and incur high costs.

Additionally, Mexican-made products like Corona (Constellation Brands) and Don Julio (Diageo) could face significant challenges if tariffs on Mexican goods are introduced. For beverage companies in particular, it may be difficult to pass even part of a potential 25% tariff increase onto consumers due to the current softness in the US beverage market and the price-elastic nature of these products.

Labour

Trump has talked about removing “illegal aliens” from the country and firming up the border. This could mean a large number of unskilled workers will be removed from the economy, potentially reengineering an additional bump to the cost of labour. The large influx under Biden’s tenure had contributed to disinflating labour costs, but this could easily reverse under Trump’s proposed policies, prompting additional inflation to re-enter the economy.

Deficits

It has been hard to keep up with all of the policy announcements, but not much has been mooted at all on spending cuts. Budget deficits are already humungous by historical standards outside of war times. The lack of discussion on reducing these deficits is palpable. Elon Musk’s recent rise through the ranks with Trump to likely becoming the person in charge of efficiency in the Trump White House with a throw away comment of generating $2trn of savings is a start, but the bar is high to enact.

Also, we must remember that Trump is a businessman. He knows the other side of government spending is corporate profits and consumers incomes. Cutting deficits may not be his political choice. If there was a choice between stock market upside or fiscal prudence – I am prepared to take a wager on which one he would choose.

Deficits are vast and they need to be funded. His policies are in the main inflationary and the government will have to sell trillions of bonds. They can tweak issuance plans as much as they like, but they will still need to raise a significant sum of money from the markets every year to service and refinance their existing debts, let alone the new debt being added. The sell-off in US government bonds post the election result is hard to disagree with.

By Lloyd Harris, head of fixed income at Premier Miton Investors

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