Fund manager interview series

Fixed-income opportunities an asset in search for yield

Liquidity is moving where the returns are higher, including out of domestic markets, despite risks

Mr Roger Early, global co-head of Macquarie Investment Management's fixed-income team, said that demand for US credit from Asian investors has been on the upswing for the past few years.
On the US dollar, Mr Roger Early said that gains in the greenback against developing and developed currencies will face challenges as US legislative reforms stall and as economic activity fails to perform as expected. PHOTO: AGENCE FRANCE-PRESSE
On the US dollar, Mr Roger Early said that gains in the greenback against developing and developed currencies will face challenges as US legislative reforms stall and as economic activity fails to perform as expected.
Mr Roger Early, global co-head of Macquarie Investment Management’s fixed-income team, said that demand for US credit from Asian investors has been on the upswing for the past few years.PHOTO: AGENCE FRANCE-PRESSE

Macquarie Investment Management executive Roger Early discusses his outlook on fixed-income and investing opportunities in the latest in our series featuring fund managers and leading market experts.

Mr Early is global co-head of the firm's fixed-income team.

He rejoined Macquarie in March 2007 as a member of its fixed-income portfolio management group with primary responsibility for portfolio construction and strategic asset allocation.

Mr Early became head of fixed-income investments in the Americas in February 2015. During his previous time at the firm, from 1994 to 2001, he was a senior portfolio manager in the same area and left when in the role of head of its US investment grade fixed-income group.

Earlier in his career, he held management positions at the Federal Reserve Bank, PNC Financial, Touche Ross and Rockwell International.

Mr Early earned his bachelor's degree in economics from The Wharton School of the University of Pennsylvania and an MBA with majors in finance and accounting from the University of Pittsburgh. He is a member of the CFA Society of Philadelphia.

Q What is the outlook for fixed-income spread products?

A One of the distinct advantages that fixed-income markets have enjoyed the past several years has been the search for yield. With relatively low inflation, sluggish economic growth and significant central bank involvement in markets, yields have been at levels near or below zero for an extended period. This environment has essentially meant that liquidity would find its way out of domestic markets in search of income opportunities, despite some of the risks associated with investing outside of their home market.

We believe that investment grade credit still provides some investment opportunities as we had witnessed improvements in issuer's fundamentals over the past several quarters, despite some of these positive catalysts showing signs of waning. After an earnings and revenue recession, companies have once again been able to deliver numbers that are more supportive of current valuations.

Q How do you interpret the recent trends in the US dollar? What about inflation?

A After a strong dollar trend based on a US Federal Reserve tight money policy and possible progress on business-friendly legislation from the US Congress and the administration, the US dollar has corrected significantly.

US dollar gains against developing and developed currencies will be challenged by a significant ideological divide that is stalling US legislative reforms, and slower than expected economic activity. Wage and inflation gains have also disappointed monetary policymakers.

Q What is your short and intermediate view on rates in the US and how are you managing interest rate risk?

A Short maturity yield movement (up) that has been influenced by the Federal Reserve tightening cycle will be more muted as that central bank embarks on a slow tapering of quantitative easing reinvestment activity.

Long maturity yield movement has been stalled by disappointments with economic activity, inflation and stalled legislative reform. Long rates are expected to trade in a range marked by a 2.75 per cent upper bound on US Treasury 10-year maturities.

Q Given your views on rates, how are you positioning your fixed-income portfolios?

A Given the absolute low level of interest rates today, our portfolio managers have generally reduced the overall interest rate sensitivity of their funds.

With that said, however, we approach interest rate risk holistically by evaluating other potential sources that may reduce or increase the interest rate sensitivity of our clients' assets.

For instance, a diversified portfolio that sources investment opportunities across multiple asset classes, such as below investment-grade credit, will imply less price volatility due to changing interest rates than a portfolio of fixed rate, higher quality bonds.

Floating rate bank loans are another example of an asset class that allows us to manage interest rate risk.

Lastly, since we construct our portfolios with an emphasis on bottom-up analysis, coupled with a top-down assessment of macro risks, we have been utilising interest rate futures as a risk management tool.

Q What can investors expect with respect to Fed balance sheet drawdown and what will the implications be for investors?

A Investors should not look at the US Federal Reserve balance sheet activity in isolation. All central bank activity is globally fungible.

Many central banks will be on a course of slow and measured tapering of quantitative easing activity. The slowdown in central bank balance sheet growth and/or a reduction of balance sheets will be challenging for markets and economies.

Central bankers will be forced to monitor reactions closely, and possibly stop and reverse their attempts to shrink balance sheets.

Q What are we seeing with respect to Asia foreign investing into US fixed-income markets?

A Demand for US credit from Asian investors has been on an upward trajectory for the past few years. Data from Goldman Sachs suggests a few reasons behind this trend, including: the desire to diversify globally and to invest in higher yields than local credit markets offer; and an ageing population that is focused on fixed-income assets.

In addition, Asia insurers have also been developing appetites and have started to invest in US taxable municipal bonds, a market that has historically drawn only largely US investors.

We have seen Japan, South Korea and Taiwan insurers already invested in this market being attracted to the high credit quality, long duration for matching liabilities, higher yields relative to domestic yields and diversification benefit from its low correlation to other major asset classes.

We expect this interest to continue particularly as regulations further support foreign investments and place increasing focus on insurers to seek long-dated securities to match their liabilities.

A version of this article appeared in the print edition of The Sunday Times on November 05, 2017, with the headline 'Fixed-income opportunities an asset in search for yield'. Subscribe