Sam Benstead breaks down the latest news affecting bond investors and income seekers.
Welcome to interactive investor’s ‘Bond Watch’ series, covering the latest market and economic news – as well as analysis – that is relevant to bond investors.
Our goal is to make the notoriously complicated world of bond investing simpler, by analysing the week’s most important news and distilling it into a short, useful and accessible article for DIY investors.
Here’s what you need to know this week.
Bond boom continues
British investors added a net £1.6 billion to bond funds in January, up from £392 million in December, as the bond-buying spree continued.
Investors are buying bonds once again due to the higher yields on offer as a result of central banks increasing interest rates.
UK gilts, government and corporate bond funds dominated the best-selling Investment Association (IA) sectors for January, as investors gravitated towards the safer end of the bond market in the face of economic uncertainty and volatile stock markets.
Chris Cummings, chief executive of the Investment Association (IA), said: “We can expect to see a stronger year ahead for bond investors, with higher fixed-interest rates available as we transition out of a low interest rate environment.”
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In January, bond funds delivered positive returns. The IA’s sterling corporate bond fund sector returned 3.7%, the sterling high-yield sector returned 3.4%, the sterling strategic bond sector returned 3.1%, and the global corporate bond sector returned 2.5%.
However, markets turned in February due to expectations that inflation will take longer to come down to central banks’ 2% targets. These IA sectors are now up between 0.6% and 2.5% for the calendar year.
Yields keep rising
Bond prices are falling, sending yields higher. The 10-year UK gilt now yields 3.85%, up from 3.5% at the start of the week. In the US, the 10-year Treasury bond has followed a similar trajectory, with yields rising from 3.8% to 4% this week.
This is due to a consensus building that inflation will take longer to come down than previously expected, meaning that central banks will have to raise interest rates even higher and keep them there for longer to control price rises.
For example, the US Commerce Department reported last week that the core personal consumption expenditures index (core PCE) rose 0.6% in the month of January, and was up 4.7% year-over-year, versus Wall Street estimates of 0.5% and 4.4% respectively. The index excludes food and energy costs in America, making it a useful measure of sticky price changes.
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More bad news for inflation came yesterday, with the US labour market reporting fewer jobless claims than expected.
If the US economy is healthier than expected, then that means there will be lots of demand in the economy, which will put pressure on prices. Higher prices mean more aggressive monetary policy.
Green bond backlash
“Green” bonds are bonds where the money raised by a company or a government is earmarked for climate-friendly spending.
The emergence of green bonds has allowed fixed-income investors to manage funds that include environmental, social and governance (ESG) considerations.
But there is a growing backlash against the debt instruments as they allow for companies in “dirty” industries to raise cash for green projects, without making overall changes to their environmental footprint.
The European Union is drawing up new standards – the “European Green Bond Regulation” - for green bonds to clamp down on “greenwashing”, where companies attempt to cover up their true environmental impact by supporting green initiatives.
The European Green Bond Standard (EUGBS) will be available to companies and public entities that wish to raise funds on capital markets to finance their green investments, while meeting tough sustainability requirements, according to the EU.
Issuers of EUGBS bonds will need to ensure that at least 85% of the funds raised by the bond are allocated to economic activities that align with the standards set out in the coming regulation.
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