WA Super News

Why are bond returns negative in March?

02/04/2020

As markets across the world are coming to grips with the escalating COVID 19 pandemic, liquidity has become scarce and basic market functions have been impaired. Prices everywhere are no longer about fundamentals or valuation, but instead are being driven by non-economic considerations such as forced risk reduction, margin calls, redemptions, deleveraging and portfolio rebalancing.

In addition to these factors, rising credit spreads and government bond yields (which reflect the perceived risk of borrowers defaulting) have caused growing losses (when yields or spreads increase, the value of bonds go down), despite equities still falling. Traditionally, investors have been able to count on bonds and equities to move in opposite directions in periods of market stress, with bonds generally providing a cushion to offset equity losses. However, in the current environment, with the extraordinary factors mentioned above, that relationship has not held this month. Below, we dive into a bit more detail on a few of the issues which have had a significant impact on bond performance:

  1. Forced selling of large market participants – Share markets began to fall in February and have accelerated through March. With their equity weightings dropping substantially due to the falls, large institutional investors have triggered a rush of portfolio rebalancing towards target asset allocations, in many cases selling off bonds to purchase shares.
     
  2. Fiscal stimulus – The huge amount of fiscal stimulus around the world is raising concerns around the ability of governments to finance that stimulus. Lots of new government bond supply at record-high prices would drive down the value of bonds with excess supply.
     
  3. Lower bound for rates – Cash rates in most economies are now effectively at the lower bound, or for some at their all-time historical low (near or even below zero). Bonds yields can no longer react as they did in the past to central bank rate cuts, since starting yields are so low.
     
  4. Poor Liquidity – As fear of the pandemic has grown, some parts of the bond market have ceased to function as smoothly as they normally do. This has driven the costs of transacting in the market increase, further hurting the performance of bonds. This has been especially true of credit markets, as the debt of companies which have come under strain find fewer and fewer buyers.
     
  5. Credit markets – The COVID 19 pandemic is expected to have an extreme negative impact on economic growth. As companies lose their ability to operate normally, debt markets have priced in a higher probability of defaults. This has raised credit spreads, meaning that companies issuing new debt must pay higher interest rates. This has caused the existing stock of credit to lose value.
     

How is WA Super positioned?

At WA Super, our diversified portfolios include allocations to a range of different asset classes and strategies aimed at diversifying away from equity risk and smoothing the return profile of our diversified investment options. In addition to bonds this can include foreign currency exposure,

Alternative assets such as hedge funds, real return funds and alternative risk premia funds along with allocations to real assets such as property and infrastructure. Constructing a diverse portfolio means when some levers don’t work as well as we intend, other parts of the portfolio can still be working.

Right now, one the most important actions our members can take is to get the right advice.  Having a clear investment strategy and appropriately calibrated investment risk profile may help keep members on track at this time. WA Super has a range of personal advice options from comprehensive, digital or intrafund advice. Our SuperClick Advice tool helps members to tailor and define their investment risk profile. Or if members would like a more in-depth discussion about their super, they can also book an online one-on-one meeting.

Click here to make an appointment.

 

The information provided contains general advice which does not take into account your specific objectives, financial situation or needs. Before investing, you should consider the appropriateness of this general advice with regard to your personal circumstances. You may also wish to obtain independent financial advice.

Investment returns can go up and down and are not guaranteed. All investments have risk, and past performance is not a reliable indicator of future performance.

For more information on risks associated with investing or before making a decision about WA Super, you should consider your financial requirements and read the Product Disclosure Statement available at www.wasuper.com.au or by calling us on 08 9480 3500.

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