The weakness of the euro against the dollar is making European bonds look unattractive against Treas...
The weakness of the euro against the dollar is making European bonds look unattractive against Treasuries.
This is being compounded by the recent decision of the Federal Reserve to raise US rates by 25 basis points, making the dollar and dollar assets more attractive against Europe than before.
The euro has fallen by around 13.5% against the dollar since the currency was launched in January. It is particularly affecting those bond investors outside the eurozone who are bearing the full brunt of the fall in the value of the euro.
Martin Hall, head of fixed income at Norwich Union Investment Management, says: "We see bond markets as very much being led by the US at the moment. The major element of uncertainty is how much US policy is going to tighten. Our own view is that the US is going to unwind the rate-cutting policy of 1998 and if the US economy continues to grow strongly it may well go further than that. The US Treasury market is still having to digest that change.
"In the eurozone, the European Central Bank is not going to be putting rates up for a long time yet. German 10-year bonds are currently on a yield of around 4.75% and we think that with the inflation outlook in Europe that is reasonable value. We are overweight in European bonds and we tend to favour the 10-year area."
Italian 10-year government bonds offer a spread of 29 basis points over German bonds while Spanish government bonds are on a spread of around 25 basis points. Hall says: "We are not tending to favour any one eurozone market over another. Increasingly, we are looking at the eurozone as a whole and then looking at the credits within that as a separate exercise."
Eddie Middleton, investment manager for fixed interest at Britannia Asset Management, says the group is broadly neutral on duration in eurozone bonds on the back of euro concerns.
He says: '"Essentially, the eurozone is a story of low inflation and low growth. The inflation indicators have slowed down a lot and are likely to remain low for the foreseeable future. Low growth is a German and Italian phenomenon. There has been a reasonable amount of talk about signs of a pick-up in Germany. Perhaps this is more that we have seen the bottom than that there is a strong recovery in place. Germany has structural problems and confidence has been dented because of the weak euro.
"If you look at valuations in isolation, the eurozone bond market does look attractive. However, that ignores the effect that the currency is having on the market. We have seen the euro putting on record lows and this is denting the confidence of investors.
"We are not really active in the eurozone market at the moment because it is quite difficult. What we are doing is keeping durations pretty close to the benchmark. We are a little bit overweight in markets like Italy and Spain because of the extra yield."
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