Lower-growth Europe ‘better for corporate bonds’

Lower-growth Europe ‘better for corporate bonds’

20-02-2014 | インサイト

Europe currently offers a better investing environment for corporate bonds compared with the US as companies are more conservatively managed on this side of the Atlantic, according to fund manager Sander Bus.

  • Sander  Bus
    Sander
    Bus
    CFA, Managing Director, Co-head Credit team, Portfolio Manager and Head High Yield

Investors should be careful not to get carried away with the superior growth prospects in America, as it also has a flipside with risk-taking, says Bus, portfolio manager at Robeco. 

He also believes the perceived threat to bond values from rising interest rates as tapering gets underway in the US is misunderstood because the Federal Reserve (Fed) is still pumping billions of dollars into the economy, albeit it at a declining rate. Rising rates mean bond yields also rise, and their prices, which move inversely to yields, fall. 

“The European economy is currently lagging the US, as growth is only just starting to pick up on this side of the Atlantic whereas the American economy is relatively roaring,” says Bus. “This bodes well for European corporations.” 

“The lack of growth makes the management of European companies a bit more conservative than their counterparts in the US, where risk-taking is conducted at a slightly higher level and faster pace. That makes Europe a better environment for bondholders to invest in, and so we have a slight preference right now for European high yield bonds.”

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Austerity is tailing off

Bus says the austerity campaigns in Europe can hurt economic growth, but as there is no need for incremental austerity this year, the fiscal drag will ease. Peripheral markets for sovereign bonds have been recovering strongly, and this also helps the credits in these countries, particularly in the larger bond markets of Spain and Italy. 

“Going forward, we think that Europe will continue to recover slowly, which in itself is good for credit quality, and the US will remain as healthy as it has been so far,” says Bus.

Nice economic environment

“Happily, we are in this low-growth environment at the moment where companies can fund themselves at attractive levels. And if companies have access to the bond market when the economy is not doing too badly (rather than roaring), it does at least ensure that the default rate stays low. It’s a nice environment for companies to operate in, while bondholders still get decent-enough returns.” 

European corporate bonds in the past have enjoyed a massive outperformance versus the US, but spreads – the difference between yields on corporates and sovereigns - have since compressed. “The relative performance differences between Europe and the US are likely to be quite minimal this year,” says Bus, whose global fund is able to play relative value trades between the two regions according to who is doing better at any one time. The quality of the companies and bonds however clearly is in favor of European high yield. “Credit quality is on average one notch higher for European high yield in comparison with US high yield,” says Bus.

The ‘threat’ of rising rates

Meanwhile, investors should not worry too much about the end of quantitative easing in the US from the Fed’s program of tapering, which cuts the amount money that is created each month to buy back bonds in order to stimulate the economy. Tapering is viewed as the end of easy money, leading to higher rates and lower returns for bondholders. 

“All that tapering is doing is reducing the additional levels of money that are being put into the system, but billions of dollars still get printed each month” says Bus. “The liquidity that the Fed throws into the market is still increasing, but at a declining rate – it was an extra $75 billion in December rather than $85 billion, falling to an extra $65 billion in January, and so on. Every month the Fed is still creating billions of dollars to buy back bonds, and the end of monetary easing is still a long way away.” 

“Europe will not hike interest rates and might even increase liquidity into the system. Mario Draghi, the president of the European Central Bank, is still talking about easing interest rates. He still has his foot on the pedal of easing because the economic recovery in Europe is still very fragile, and inflation is completely absent.”

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