End of the easy money era

End of the easy money era

21-08-2018 | Vision

For the first time since 2009 all the major central banks are singing from the same hymn sheet: the only way is up! Even the Bank of Japan has now decided to increase the bandwidth within which it will allow bond yields to move, a signal that they are prepared to let interest rates start moving higher.

  • Johan Duyvesteyn
    Senior Quantitative Researcher and Portfolio Manager
  • Olaf  Penninga
    Portfolio Manager

Speed read

  • Policy of major central banks starting to converge
  • Potential for higher bond yields and more market volatility
  • Active duration management offers protection as yields rise and volatility picks up
Découvrez les dernières perspectives
Découvrez les dernières perspectives

And, although the central bank chiefs are not exactly shouting it from the rooftops, the message is clear: they are gradually going to increase interest rates and let bond markets worldwide move more freely. As a result, actively managing interest-rate risk will become more important for bond investors and potentially also more lucrative. Robeco’s QI Global Dynamic Duration strategy is designed to exploit yield moves and is well-positioned to benefit in this challenging environment.

One small step for the Bank of Japan…

The Bank of Japan (BoJ) has implemented more extreme policy measures than any other central bank in recent years. Not only has it introduced negative interest rates and bought up a huge amount of its own sovereign debt – it owns more than 40% of all outstanding Japanese government bonds – it has also introduced a 0% target for 10-year government bond yields and ensured that yields remain within 10 basis points of this target level. Japan’s central bank is now relaxing the last of these measures and, in its recent meeting, the BoJ decided to allow yields to rise gradually. In the ensuing press conference, president Kuroda said that the target yield range would be doubled. However, just two days later, the BoJ proved to be more measured in its actions than in its words: intervening before 10-year yields reached 0.2% and purchasing JPY 400 billion (EUR 3 billion) of 10-year bonds in an unscheduled operation after yields had only ticked up to 0.14%.

…but one giant leap for bond markets

Although the Bank of Japan is taking things gently and letting bond yields rise only very gradually, this step still means that the policy direction is now the same for all the major central banks: the Fed is hiking rates and shrinking its balance sheet, the Bank of England has just hiked rates again and the ECB is winding down its bond-buying program and signalling that it is likely to start hiking rates in the third quarter of next year. Global bond markets will now have to cope with higher short-term rates and central banks that are on aggregate reducing rather than increasing their bond portfolios. Furthermore, higher Japanese bond yields make foreign bonds less attractive to Japanese investors and the lower demand this may cause could also lead to higher yields on Eurozone government bonds. US bonds have already become unattractive for Japanese investors, as the Fed’s rate hikes have increased the costs of hedging the currency risk. As a result, Japanese investors are reducing their holdings of US Treasuries.

Duration strategy performs well when yields rise, especially when there is more volatilty

Now that all the major central banks are moving towards tighter monetary policy, yields are starting to rise, especially in the US, and we can expect bond markets to become more volatile. Robeco QI Global Dynamic Duration can offer protection against rising yields by reducing its interest-rate sensitivity. It can add more value when bond yield levels move more significantly, irrespective of the direction. This is because the strategy actively times its bond market exposure. When yields lack direction, the strategy has fewer opportunities to add value as it reduces or increases its interest-rate sensitivity (duration) according to market circumstances. This makes the Dynamic Duration strategy an effective solution for investors looking for ways to protect the value of their government bond portfolios in an environment where they are likely to be confronted with the dual challenge of increased volatility and rising interest rates.

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