Bond market recap: two contrasting years
12 November 2019
By Michel Vernier, CFA, London UK, Head of Fixed Income Strategy
While 2018 disappointed bond investors, 2019 delivered exceptional returns across the major bond markets. While this pattern, as well as ultra-low yields, may raise concerns, it is worth a closer look before drawing conclusions for 2020.
2019 goldilocks scenario
Bond returns in 2019 should not be extrapolated when looking forward to 2020, given that the market, across most currencies and segments, started the year at very low entry levels after the sell-off in December 2018. Investment grade bonds, as well as longer dated US treasuries, delivered 13% performance while high yield bonds and emerging market bonds returned around 10% over 2019. This is in stark contrast to 2018, when most bond segments, even taking into account coupon payments, delivered negative returns.
Short-dated bonds offer certainty
Only short-dated government bonds achieved positive returns in each of the two years. Future returns of short-dated bonds, unsurprisingly, are more predictable. At the start of 2018 short-dated treasury bonds yielded 1.6%, on average, delivering a performance of 1.9% while at the start of 2019 the yield was 2.5%, delivering a performance of 3.2%. This may suggest that short-dated bonds are the superior segment in the bond market.
In the long run, short-dated bonds underperform significantly
However, certainty comes at a cost. While in the short and medium term the yield difference seems a small sacrifice, in the long run bond investors are losing out on two additional features: income and a hedge against recession or low growth.
Since 2004, the return of short-dated bonds averaged 2.5% in USD each year. This compares with a 9% average return for longer dated US treasuries, or an 8% average return for investment grade bonds. In the same period, high yield bonds and emerging market bonds returned over 13% on average each year. So short-dated high grade bonds underperformed by 5.5-10.5% each year depending on the respective market.
Which bond assets perform when yields are rising?
The performance of longer dated bonds has been helped by lower trending rates. So how does this compare when considering periods of increasing rates? A prominent example is the 2012-2013 period when the US Federal Reserve decided to reduce its balance sheet, causing a dramatic surge in bond yields.
EM and HY bonds perform even in rising rate environment
Unsurprisingly, longer dated treasuries lost over 9% within 1.5 years in 2012 and 2013, while returns on short-dated bonds provided a positive return of 0.6%. Investment grade bonds (3.7%), high yield (HY) bonds (18.5%) and emerging market (EM) bonds (8.6%) performed well during that period. The often quoted underperformance of EM and HY assets was only two months, while both segments recovered quickly afterwards. A similar pattern was observed during 2016, when US rates rose on the back of President Donald Trump’s fiscal stimulus plans.
It seems that apart from temporary bursts of volatility, most parts of the bond market typically outperform short-dated bonds significantly over the longer term. And this even occurs in periods of rising yields or when short-dated bonds seemed to offer the only safe haven. Losing out by 5.5-8.5% each year seems a big sacrifice in this context.
We give you versatility and a choice of services
Barclays Private Bank provides discretionary and advisory investment services, investments to help plan your wealth and for professionals, access to market.
Investments can fall as well as rise in value. Your capital or the income generated from your investment may be at risk.
This document has been issued by the Investments division at Barclays Private Banking and Overseas Services (“PBOS”) division and is not a product of the Barclays Research department. Any views expressed may differ from those of Barclays Research. All opinions and estimates included in this document constitute our judgment as of the date of the document and may be subject to change without notice. No representation is made as to the accuracy of the assumptions made within, or completeness of, any modeling, scenario analysis or back-testing.
Barclays is not responsible for information stated to be obtained or derived from third party sources or statistical services, and we do not guarantee the information’s accuracy which may be incomplete or condensed.
This document has been prepared for information purposes only and does not constitute a prospectus, an offer, invitation or solicitation to buy or sell securities and is not intended to provide the sole basis for any evaluation of the securities or any other instrument, which may be discussed in it.
Any offer or entry into any transaction requires Barclays’ subsequent formal agreement which will be subject to internal approvals and execution of binding transaction documents. Any past or simulated past performance including back-testing, modeling or scenario analysis contained herein does not predict and is no indication as to future performance. The value of any investment may also fluctuate as a result of market changes.
The value of any investment may also fluctuate as a result of market changes.
Neither Barclays, its affiliates nor any of its directors, officers, employees, representatives or agents, accepts any liability whatsoever for any direct, indirect or consequential losses (in contract, tort or otherwise) arising from the use of this communication or its contents or reliance on the information contained herein, except to the extent this would be prohibited by law or regulation.
This document and the information contained herein may only be distributed and published in jurisdictions in which such distribution and publication is permitted. You may not distribute this document, in whole or part, without our prior, express written permission. Law or regulation in certain countries may restrict the manner of distribution of this document and persons who come into possession of this document are required to inform themselves of and observe such restrictions.
The contents herein do not constitute investment, legal, tax, accounting or other advice. You should consider your own financial situation, objectives and needs, and conduct your own independent investigation and assessment of the contents of this document, including obtaining investment, legal, tax, accounting and such other advice as you consider necessary or appropriate, before making any investment or other decision.
THIS COMMUNICATION IS PROVIDED FOR INFORMATION PURPOSES ONLY AND IT IS SUBJECT TO CHANGE. IT IS INDICATIVE ONLY AND IS NOT BINDING.