By Paul Griffiths, head of fixed interest at Investec Asset Management Take the following questi...
By Paul Griffiths, head of fixed interest at Investec Asset Management
Take the following question: since 1989, which have performed better " global equities, global bonds or roughly the same? Easy you might think, the answer's equity, isn't it? The correct answer is that they have actually performed roughly the same.
The total return on the MSCI World Equity index from the end of 1989 to the end of 2001 was 125%, while the Salomon World Government Bond index was 118%. Bonds were a good buy.
Investors in global bonds have done as well as their global equity brethren but with considerably less heartache. Bonds also outperformed cash by a significant margin over this period, making them one of the most attractive asset classes around.
So why have bonds performed so well and what is the outlook from here?
Over the past decade, bonds have benefited from a marked decline in inflation. The increased independence of the world's central banks, coupled with an increased desire to ensure price stability has helped. Increased globalisation, world trade and technological advantages, such as the internet, have also been key.
More recently, global bonds have benefited from the sharp slowdown in the world economy. The US has been especially weak, with the terrorist attacks of 11 September ensuring recession in 2001. This weakness has been exported to the rest of the world, with both Germany and Japan in or close to recession.
The medium-term outlook for global bonds remains pretty good. The economic recovery is likely to be modest in 2002. Many of the imbalances built up in the US during the boom of the late 1990s have yet to be fully resolved.
In particular, private saving will likely need to rise somewhat to help reduce the current account deficit, which implies only modest consumption over the next few years. In addition, capital spending is likely to remain weak as companies continue to work off past excessive investment.
In the eurozone, interest rates have been cut less aggressively, while fiscal policy cannot be loosened to any significant degree as a result of the requirements of the stability and growth pact. Meanwhile, Japan is likely to remain in a near recessionary state.
Inflation is likely to fall sharply in most countries and capacity utilisation has dropped to its lowest level since the early 1980s in the US. This is likely to add downward pressure on prices for some time to come, even if growth recovers in 2002 and 2003.
Technological advances and increased globalisation should continue to ensure that price increases remain modest as production is sourced from the cheapest producer, either nationally or internationally.
All this means that the outlook for global bonds remains good. Bonds should continue to outperform cash and give equities a good run for their money.
For those wishing to spice up their portfolio, high yield debt offers an attractive alternative to government bonds and equities. Yields on non-investment grade bonds are currently at very compelling levels and should benefit from any economic recovery.
Inflation expected to fall.
Economic recovery to be muted.
High yield bonds are cheap.
Risk of a rapid recovery.
Interest rate rises are on the cards.
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Square Mile’s series of informal interviews
Fallout from Haywood suspension
Launching later in 2019
£80bn funds under calculation