While forecasting a better outlook for equities than fixed income, Nordea’s multi-asset team expects corporate bond fundamentals to remain healthy in 2022.
Given the low yield environment, Asbjørn Trolle Hansen, head of the multi-asset team at Nordea, said the team has maintained its cautious stance in the fixed income space. However, much of this caution relates to the outlook for government bonds in an inflationary environment.
“Overall, we still see duration premia at rather unattractive levels and the diversification benefits that investors could derive in the past from government bonds have steadily declined,” Trolle said. Hansen.
Unlike government bonds, Trolle Hansen noted that credit is less hampered by rising inflation because credit performance – much like stocks – is often positively correlated to inflation. Indeed, inflation improves corporate profits and the borrower’s ability to repay debt.
“Market concerns about monetary policy tightening haven’t really had a negative impact on credit so far,” he said. “Credit fundamentals remain sound on the back of strong earnings and restrained corporate spending, which is boosting corporate cash and liquidity.”
As a result, Trolle Hansen said Nordea’s multi-asset team is experiencing very few defaults at present, and according to the expectations of credit managers and ratings agencies, defaults should remain moderate compared to at historical levels for the next two years.
“With overall bond markets currently showing little appetite for duration-sensitive government bonds, corporate bonds are becoming an attractive alternative as current tight spreads are offset by a low probability of default,” did he declare.
From a longer-term perspective, Trolle Hansen said it’s critical to point out that expected returns for the next decade will be “significantly” different from what investors have seen in the previous one.
He said: “We expect lower expectations to impact all traditional asset classes and this is particularly true for fixed income, where expected returns are low or even negative for the class. assets in the future. On the other hand, equities will remain largely in the spotlight as the main source of return for the years to come.
“Here, the question remains whether they will be able to deliver the expected returns without a significant increase in volatility or a significant correction.”
So even though the world is very different from what it was before the pandemic, for Trolle Hansen the dilemma for investors appears to be “strangely similar”.
With the potential for diversification in fixed income drastically reduced and government bonds appearing to offer little comfort, he said there was a strong need for investors to have other alternative tools to be able to diversify the beta risk of equities within of their wallets.
“This has become more urgent than ever, especially since the traditional diversification tools that investors were used to in the past no longer worked during recent stock market selloffs,” Trolle Hansen said.
“An example is the use of defensive currencies, selected on the basis of quality characteristics and attractive valuation. During recent sell-offs, defensive currencies have provided superior downside protection compared to many sources of traditional bonds.