Investment trust insider on debt loans and bond funds – James Carthew: Soft landing vs recession weighs on bond funds
Last Thursday’s interest rate decision saw the Bank of England hike interest rates by 0.25 percentage points as expected. Afterwards, interest rate swap curves were suggesting that UK interest rates would peak at about 5.75% before falling back to the vicinity of 4% over the medium term. The UK yield curve, which plots the yields on government bonds of different maturities was still inverted – short-term rates higher than long-term rates – which is traditionally seen as a sign of an impending recession. The cost for government borrowing over 10 years was 4.4%.
In the US, where 10-year government borrowing cost is about 4.1%, the yield curve picture looks very similar. Commentators seem to think that the recent interest rate increase to a target range of 5.25%–5.5% may be just 0.25% off the peak. US inflation seems to be falling even while economic growth and indicators such as jobs data appear robust.
Conversations over recent weeks suggest that managers of equity-focused funds are relatively upbeat, on average expecting a ‘soft landing’ for the economy. However, bond fund managers tend to be more pessimistic.
Whether or not we get a recession makes quite a big difference to the returns of bond funds. This is already evident in the contrasting fortunes of funds in the AIC’s Debt – Loans and Bonds sector such as Henderson Diversified Income (HDIV), Invesco Bond Income Plus (BIPS) and CQS New City High Yield (NCYF).
HDIV has the lowest underlying investment return over three years with net asset value (NAV) including dividends dropping 2.9% per annum on average. Setting aside the NB Distressed Debt funds in run-off, its shares trade on the widest discount, currently 12.3% below NAV.
Fund managers Jenna Barnard, John Pattullo and Nicholas Ware have… read more here