Abbey National and Invesco prefer the US bond market to the national debt of dollar bloc countries s...
Abbey National and Invesco prefer the US bond market to the national debt of dollar bloc countries such as New Zealand, Canada and Australia, says Ken Robertson, investment manager on Abbey National's fixed interest desk.
"On a prima facie view there is no overwhelming reason to be involved in the New Zealand and Australian bond markets."
New Zealand's 10-year bond rate of 6.63% is higher than the US Treasury equivalent rate of 5.92%, or the Federal fund rate of 6.5%. Robertson says this is because the New Zealand market is thinner and less liquid, making it easy to get into the market but difficult to pull out.
Robertson says the bias of risk between the three countries is New Zealand as the riskiest, followed by Australia then Canada. The cost pressures of Australia's labour markets are higher and the introduction of sales tax combined with the short-term impact of the Olympic games are other factors likely to drive interest rates up.
Of the three peripheral dollar countries, Robertson believes Canada stands apart because its level of inflation is low and its close ties with the US economy mean many of the productivity improvements seen in the US have been repeated in Canada.
Mark Dowding, head of global bonds at Invesco, believes it has become clear that governments have embraced a fiscal ortho-doxy which will see a continued dearth of new debt issuance.
He says the balancing of budgets by world governments is not a short-term trend while conditions are favourable but a long-term strategy.
Governments are balancing their budgets on a year-by-year basis but many are also using budget surpluses to reduce debt.
Dowding says: "The US government should be able to pay back all its existing debt by the end of the decade if it chooses to, but a more realistic figure would be in 20 years time, given the temptation to use surpluses for more short-term measures such as social spending and getting re-elected."
Neither the Canadian, Australian nor New Zealand markets, collectively known as peripheral dollar markets, looks attractive to Invesco, which prefers US corporate bonds.
Dowding says: "Despite New Zealand having a positive differential of 70 basis points, US corporates look more attractive with a positive differential of 120 basis points and have a very mature and stable market."
He says he believes the Canadian and Australian economies will see their growth accelerate but this will mean higher interest rates and a poorer bonds market.
While bonds in the peripheral dollar markets are 'plain unexciting', Dowding believes there is some good news in currencies. The Canadian and New Zealand dollar are both undervalued and should benefit from stronger commodity prices and economic growth.
He says: "If you believe interest rates are likely to rise you don't want to be in the bond market because you expect the yields to stretch. But these are attractive markets on a currency hedging basis.
"If, for example, the benchmark is 60% US, 40% Europe then as well as having 60% in US bonds you would, de facto, have a 60% exposure to the US dollar in your portfolio."
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