A shifting global interest rate environment is helping to buoy fixed income markets, offering investors some attractive yields and widespread pockets of global opportunity, says Insight Investment¹ co-head of fixed income Peter Bentley.

As central banks continue to battle resurgent inflation, market forecasts on interest rate movements have oscillated in recent months, with a plunge in expectations for rate cuts by the US Federal Reserve the latest shift in thinking.²

According to Insight’s Peter Bentley this reset on interest rate expectations and wider central bank restraint has helped nudge government bond yields higher in what he believes is a supportive market for many fixed income assets.

“In January markets were much more bullish on interest rate cuts but have now gone full circle and become more negative in their outlook on downward rate movements. US Federal Reserve pronouncements now appear to be broadly in line with what the markets think and bond yields have moved higher over 2024 as rate cut expectations have moderated,” he adds.

Despite some potential warning signs in the bellwether US economy, including a recent dip in house price sales and a rise in consumer credit card usage and delinquencies, Bentley believes the wider macroeconomic backdrop presents an attractive environment for various fixed income asset classes.

“While inflation has generally surprised to the upside it is still trending towards central bank targets, remains broadly stable and is at a relatively acceptable level. We believe this backdrop presents a very good environment for alpha generation in areas of fixed income such as global and regional investment grade credit.

“From an asset class perspective, there are several areas where we see high return potential, including short-dated high yield, US high yield beta, European investment grade and emerging market corporate debt. In our view so-called fallen angels, whose credit ratings have dipped from investment grade to high yield status, also hold significant investment potential, once we move to a phase where there are more such downgrades happening” he says.

Market volatility

With an unusually high number of national elections taking place globally in 2024, Bentley sees scope for a significant rise in market volatility. He believes this more unsettled backdrop could help active investment managers pinpoint specific pockets of opportunity amid the turmoil.

Despite an unpredictable outcome to some recent European elections, Bentley views Eurozone markets as resilient enough to weather short-term squalls of volatility and head off any potential crises in the foreseeable future.

“Despite the likelihood of some continued election related volatility, and while some tougher conversations on the levels of European debt may lie ahead, we don’t see any extreme scenario - such as a rerun of the European sovereign debt crisis - evolving any time soon,” he says.

Global approach

Beyond Europe, the ability to invest globally can give investors an edge in navigating more extreme pockets of volatility, adds Bentley, while helping them to identify a broad range of geographic opportunity.

“In our view, many credit investors tend to be overexposed to their own domestic regions. Going global widens the opportunity set and can potentially provide access to higher yielding investment grade credit. It also allows investors to take advantage of asynchronous credit cycles and relative value opportunities across markets,” he says.

“We believe there is a broader opportunity set in global fixed income versus local and that the ability to shift allocations can, in some cases, help investors outperform after a market crisis or major sell-off and mitigate drawdowns. Importantly, taking a global approach means investors can also more easily switch between different currencies if required.”

Looking ahead, Bentley believes growth, inflation and the shape of the global interest rate regime are key to the health of fixed income markets and is heartened by the modest signs of economic growth recently reported across select markets, including the UK³.

“Global growth is pointing towards stabilisation which is generally constructive for credit, in our view. Inflation is not at rates we feel we need to be particularly worried about.

“Overall, we believe we are in a positive environment for corporate bond markets. And while we do believe credit spreads are unlikely to rally much from here, our view is that sustained volatility in this mid-cycle environment presents both potential threats and opportunity,” he concludes.

The value of investments can fall. Investors may not get back the amount invested. Income from investments may vary and is not guaranteed.

¹Investment Managers are appointed by BNY Mellon Investment Management EMEA Limited (BNYMIM EMEA), BNY Mellon Fund Managers Limited (BNYMFM), BNY Mellon Fund Management (Luxembourg) S.A. (BNY MFML) or affiliated fund operating companies to undertake portfolio management activities in relation to contracts for products and services entered into by clients with BNYMIM EMEA, BNY MFML or the BNY Mellon funds.

²Morningstar. Economic Insights. 4 Charts on Plunging Expectations for US Fed Rate Cuts. 11 April 2024.

³BBC. UK economy grew faster than expected in May. 11 July 2024.