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Bond market correction still some way off, says Standish’s Leduc

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David Leduc, manager of the BNY Mellon Global Strategic Bond Fund, says there will be sluggish economic growth in developed economies for some time to come, along with an extended period of low central bank policy rates given the limited inflationary pressures.

Meanwhile, the austerity measures being undertaken by many European governments threaten to choke any hopes of sustained economic growth, in the near-term at least, and the success of such strategies is yet to be seen, he says. 
 
“We believe there is value to be found in lower rated credit and have exposure to high yield corporates. Many high yield bond issuers have been able to take advantage of demand in bond markets and re-finance debt at attractive ‘all-in’ rates of interest, given how low government bond yields are. We have also used derivative contracts to hedge out market beta risk during periods of market turbulence,” says Leduc.
 
The fund only sees limited value in investment grade credit and has progressively reduced its large overweight that was maintained throughout 2009 and currently has a neutral position to this area of the market.

Recognising the differing economic growth prospects for the developed versus developing, the fund has established exposure to government debt across several countries – notably Mexico, Poland, Indonesia, Brazil and Chile – where bond yields are attractive. 
 
“Meanwhile, there has been recent speculation over whether German Bunds are at risk of a correction, and they certainly look expensive in historic terms – the yield on the ten-year Bund recently traded at a record low of just 2.20 per cent, but the reasons for this are understandable,” says Leduc. “Much can be attributed to the Bund’s perceived safe-haven status – during periods of heightened risk aversion in financial markets, German Bunds tend to benefit given the country’s strong economy and robust government finances.” 
 
This year has seen heightened concerns with respect to sovereign default risk across a number of peripheral European countries, and as investors have pushed yields higher for Spain, Portugal, Greece and Ireland, so too has demand for the relative safety of German government debt, thus pushing yields lower.

Furthermore, with the European Central Bank’s low interest rate policy set to continue amid lower inflation expectations, Bund yields are likely to remain low for some time to come,” says Leduc.
 
“Evidently a reversal of these two factors would likely result in yields moving higher. Growing investor confidence in those peripheral European economies would probably see investors ditching Bunds in pursuit of the higher yields available across other European government bond markets. Similarly, should Eurozone economy expand more rapidly than currently expected then this is likely to stoke longer-term inflation concerns and prompt the ECB to tighten rates. In that environment, riskier assets are likely to outperform government debt,” he adds.

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