Investors remain uncertain

Paul Brain, manager of the BNY Mellon Global Dynamic Bond fund

In recent months, there have been increasing signs that global economic growth is picking up again. However, Newton, an investment boutique of BNY Mellon, remains skeptical about how stable this recovery trend actually is. With investors still sensitive to the actions of policy makers from developed countries, Newton's Global Dynamic Bond strategy is impacted by the current investment environment as follows:

By Paul Brain*

The recent very good forward-looking US economic indicators point to a continued growth trend. At the same time, consumer confidence (despite higher mortgage rates) is supported by the robustness of the housing market. That's why government bond yields should continue to climb higher. However, since the yield curves are already steep at present and the central banks have only recently emphasized once again that interest rates will remain low for some time to come in view of only moderate inflationary pressure, a significant increase in borrowing costs is probably not to be expected. For this reason, papers with medium maturities are currently attractive. In view of rising interest rates, Newton is using long-term positions to only a limited extent. In the absence of a discernible increase in economic performance, a significant underweight is no longer justified, as yield curves are currently extremely steep by historical standards and there were already sharp price falls at the start of the global economic recovery.

Corporate bond spreads should benefit from the improving economic data of the established economies. This applies in particular to companies whose profits are still well hedged. With short-term interest rates unchanged for the time being, high-yield corporate bonds are still attractive. The reasons for this are the comparatively positive growth environment, only limited refinancing needs and low projected default rates.

The ongoing global growth trend and the greater clarity that now exists regarding an end to the Fed's quantitative easing measures should benefit emerging market bonds denominated in hard currencies with shorter maturities. However, given the ongoing outflows of funds, the urgent need for structural reforms and the difficult political situation in many major emerging markets (also due to upcoming election dates), there is still a possibility of fluctuations in value.

Looking ahead to the coming months, the currencies of many emerging market economies now offer only limited potential for a truly sustainable uptrend. This is especially true as the governments of many emerging markets seek to boost their exports through a weaker currency. However, improving trade balances and the recent sharp decline against the U.S. dollar in select currencies could create investment opportunities in the near term. At the same time, the US economic recovery could also argue for a high weighting in the US dollar (at the expense of the yen and the euro). The Bank of Japan's aggressive quantitative easing measures and the deterioration in Japan's current account also suggest that the yen is currently particularly vulnerable to a further period of weakness.

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