As the pullback in the US Federal Reserve’s monetary support draws inexorably closer, investors are striving to taper-proof their portfolios with 2013’s volatility still fresh in their minds.
Eight years ago this month, global yields jumped and risky assets fell on a hint from then-Fed chairman Ben Bernanke that the central bank might start trimming its crisis-era bond program.
Wary of a repeat volatility spike some fund managers are turning to lower-duration high-yield debt for shelter, while others see a tantrum-less taper and are betting on emerging market (EM) assets to prevail.
With economists expecting the central bank to begin paring asset purchases by the end of this year, Fed officials are sticking to the script that it is too early to discuss any shift in COVID-19 pandemic policy setting. However, moves by counterparts in the UK and Canada to slow the pace of bond buying as their economies improve have reminded traders that the Fed cannot avoid the taper forever, especially as US growth surges.
“The biggest threat to the market is rates volatility jumping higher, like we saw at the end of February,” said Pilar Gomez-Bravo, investment officer and director of fixed income at MFS Investment Management in London. “The valuations of risky assets are high, so you don’t have a lot of room for complacency.”
Gomez-Bravo favors junk bonds as an asset class less vulnerable to a reset in yields than their investment-grade peers, which have much higher duration or sensitivity to interest rates.
Leveraged loans are an even better choice and some “stressed” debt securities should be less correlated to broader market repricings, Jefferies Financial Group Inc credit strategist Sherif Hamid said.
Investment-grade bonds are already under pressure with the largest exchange-traded fund for high-grade credit experiencing its longest stretch of outflows since 2013, according to data compiled by Bloomberg.
Bonds took the brunt of the 2013 turmoil, with US Treasury yields jumping 50 basis points in the month after Bernanke spoke.
Over the same period the MSCI Emerging Markets Index slumped 14 percent and NASDAQ 4 percent. However, the tech-heavy gauge now trades on 26 times forward earnings, compared with just 15 times then.
This time around, BlackRock Inc — the world’s largest asset manager — suggests that much of the move in the bond market might have already taken place, and emerging market assets should hold up much better.
“We still think yields can move somewhat higher, but tactically we think the big repricing of the activity restart is now mostly done,” said Ben Powell, chief Asia-Pacific investment strategist for the BlackRock Investment Institute.
The combination of an economic recovery, heavy stimulus and a broadly stable dollar should be enough to spare risk assets — including those from developing countries— much of the impact of a gradual easing of central bank support, BlackRock said.
The firm is overweight on both developed and emerging-market equities, “and on the fixed-income side, we actually upgraded EM local currency debt last week,” Powell said.
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