The higher yields on global bonds are attracting increased interest from investors, according to Timothy Crawmer, director and global credit strategist at Payden & Rygel, a global asset management firm. We asked Crawmer and his colleague, London-based Frasat Shah, about the asset class and what opportunities and risks it poses for investors.
We’ve seen news coverage about 2024 being a very strong year for the bond market, maybe even exceeding the expectations for equities. What are your views?
Tim Crawmer: On the bond outlook for 2024, a lot of positive things are going on that are going to support fixed income. The main thing is that higher yields are attracting a lot more demand from investors. Also, given that equities had such a strong year last year, we have seen big funds take some chips off the table in equities and put them into fixed income, especially at these higher yields. There’s a lot of demand that’s supporting the market. It’s really going to come down to what government bond yields do in 2024 to dictate the total return for fixed income. And, as a result of that, how much duration is in your fixed income product that you are managing? Because, the more duration, the more impacted they’re going to be by changing government bond yields. Global high-yield has a lower duration so it’s going to be less impacted by what happens with government bond yields and more impacted by what happens with credit quality, how strong the economy is, how much interest there is for global high-yield. And we think all of those things are really positive for the market.
What about the global economy? It exceeded the expectations in 2023. Do you see it exceeding expectations in terms of its growth in 2024?
Tim Crawmer: We expect there to be strong growth in 2024, especially in the US. The US is setting up positively from a macroeconomic point of view because the labor market is strong, business activity is picking up and being supported by the strong labor market. The expectation is that central banks, especially the Fed, will start to ease monetary conditions, which will be another tailwind for the economy in 2024. We think that gross domestic product (GDP) is going to be pretty strong and will at least meet expectations and could continue on the path of exceeding expectations similar to what happened in 2023. Outside of the U.S., it’s a little bit more of a murky situation, but it still should be positive, just not as robust as the US. A lot of that is because there are areas globally like China that are slowing down and China activity has ripple effects through other parts of the global economy, especially Europe. Europe is such a heavy exporter to Asia and China, and that’s going to weigh a little bit on the European market and Asian markets. But we still expect there to be positive growth. It’s not a negative story, just not as positive as the U.S.
What do you hear from clients in London?
Frasat Shah: There’s been a long-held expectation that Europe is going to underperform the U.S. and it has been true to an extent. There’s definitely been a divergence in growth. There was pessimism that was priced into European markets in 2022. It didn’t turn out to be as bad as expected. Everyone was worried about substandard growth due to the impact of higher energy prices. Going forward I think it’s fair to say that European growth will be more weighed upon by external factors like China, given the export economy that it is and the reliance of Europe on China. With that being said, and with expectations low in Europe, in our eyes there’s no obvious catalyst for a break in market confidence or a significant downturn in global GDP. We think it could very well be possible that Europe, perhaps not catches up to the U.S., but could outperform expectations.
In the U.S., we went into the year expecting that the Federal Reserve was going to lower rates. Now it seems the dialogue is changing. Some people are even saying that they’re going to raise rates again. What are your expectations?
Tim Crawmer: Our view is that we’re going to see the Fed cut rates at some point in 2024. The question is when that happens or if it gets pushed into 2025? We did have some hotter-than-expected inflation data early this year that has pushed people into that camp of the Fed holding out and doing it later than what was originally expected. We think that those numbers were somewhat seasonally-adjusted and they showed higher readings just because of seasonal factors more than showing a change in the trend. Once that trend resumes and shows a downward trajectory for inflation, the Fed will move into the camp of cutting rates because rates right now are restrictive and they know it. They don’t want to keep it at these levels longer than they need to because that would weigh heavily on the economy.
What about central banks in Europe? Is the view that they’re not going to be moving downward too soon?
Frasat Shah: I think it’s a bit more nuanced. At the moment with what’s priced in you’ll see that the European Central Bank (ECB) and the Bank of England have a similar number of cuts priced in for this year to the U.S. We would say that if we were to bet on a market that’s more likely to cut, we would say it’s over here in Europe. I think that’s for a few reasons. Growth, as you’ve noted earlier, is more lackluster here. But also, especially in the UK, we have higher interest rates feed in quicker to our economy because mortgage terms mostly shorter than five years. I think the Bank of England is quite wary of that, and we think it’s a matter of time before the force of all the rate hikes that we’ve experienced over the last few years start to weigh more heavily on the consumer and you start to see a divergence in consumer appetite, especially over here in the UK relative to the U.S. All of that to say if we were to bet on a market cutting first, it would probably be the UK, perhaps then followed by the ECB, and then the U.S., just from how the data falls currently.
Tim, you agree with that? It’s an interesting point. Who’s going to make a move first here?
I think it is accurate in our view. There just isn’t a mechanism in the U.S. for the federal funds rate to impact the economy as quickly as central bank rates do, especially in the UK and then also Europe. So, I think that makes the ECB and BOE quicker to pull the trigger than the US.
Let’s talk about the high-yield market. It had a great year in 2023. In an environment where we don’t know what’s happening with interest rates, is this still a good environment for high-yield bonds?
Tim Crawmer:I think it’s going to be hard to repeat what we saw in 2023. For global high yield, we saw close to 13% return for 2024. 2024 is going to be a harder year to repeat what we saw in 2023 because spreads rallied in to the low 300s on the global high-yield index. Historically, it’s been pretty tough for them to rally in a lot further than that level so capital appreciation is going to be limited. That leaves the carry component and the coupon as the main driver of returns. We think it’s going to be a really supportive environment for investors to capture that carry. We expect that to result in a 7% to 8% type of return for global high-yield, which is very good but it’s not as good as last year when you got 13%.
Frasat Shah: Yes, it was extraordinary. The only thing I would add is default expectations remain low. So, I don’t think you’ve got a significant headwind to returns from defaults. Expectations are about 2% in Europe. I think they’re closer to 3% in the U.S., but also recovery rates have been robust. So, it seems there’s a good case to be made for a high single digit return here but not quite 13%. We’re not at the same starting point.
