Sovereign bonds have been in the spotlight this year, as concerns over fiscal deficits and the prospect of further inflation-induced rate hikes prompted a massive sell-off across fixed income markets.
For example, the 30-year Japanese government bond jumped to an all-time high in recent weeks, according to data from AJ Bell. Meanwhile, US yields are approaching global financial crisis levels, while the 30-year gilt rose above 6%, a level not seen since 1998.
This has been reflected in performance, with the Bloomberg Sterling Gilts index down around 3% so far this year, according to data from FE fundinfo.
However, despite the negative narratives, a handful of experts have remained undeterred, arguing that investors have let their fear get the better of them.
See also: Bond market rout brings gilt yields to financial crisis levels
Ben Lord, manager of the M&G UK Inflation Linked Corporate Bond fund, said: “At yields like these, I think you should be putting your shoulder into the bond market.
“I can’t get it out of my head; we’ve got 5% government bond yields; it looks really compelling.”
This is a massive departure from periods such as 2023, he explained, when there was essentially “no point” in owning long-dated bonds because investors were not being adequately compensated for returns.
On top of this, Lord noted there is no guarantee yields stay at this level for long, given that this is mostly a function of US President Donald Trump’s inflationary actions this year. Before Trump’s war with Iran led to concerns about spiking inflation and rate hikes, most central banks were pricing in multiple rate cuts.
This would have left government bond yields at closer to 3% or 4%, a much less attractive figure, Lord noted.
See also: Schroders’ Kyrklund: Challenge posed to equities by rising bond yields.
“Just be brave,” he said. “You have to ask yourself: will government bond yields stay here forever?”
“I don’t want to be selling interest rate risk at this point,” he said. “I think government bond yields are attractive; I want to be owning these yields.
“Don’t be too fearful of government bond valuations; we loved them at 1%, why don’t we love them at 5%?”
Jason Borbora-Sheen, multi-asset manager at Ninety One, was similarly keen on fixed income, arguing that many of the negative narratives this year had become “stale” and already reflected in the price.
“What has happened in the first few quarters of the year is that longer-dated sovereign bonds were underperforming shorter-dated bonds, so you saw yield curves steepen.
“But with all that’s being said about the sustainability of developed market fiscal debt, the most reliable payer of income, the most reliable source of yield remains developed market sovereign bonds,” he said.
As an income-oriented multi-asset fund, he explained the team judged assets on three main criteria: the yield, its reliability and its valuation risk. On most of those metrics, sovereign bonds remain highly compelling.
“Ultimately, you will get paid your coupon from a gilt or Treasury,” he said. The real chance of default from a government bond is ultimately very low, but this reliability of income cannot necessarily be guaranteed in equities or even some forms of corporate credit.
Robin McDonald, manager of the recently renamed Schroder Diversity Real Return (formerly Schroder MM Diversity fund), has also started adding to this sector of the market recently, he told Portfolio Adviser.
At the time of writing, fixed income represents around 16.9% of his portfolio, according to the fund’s latest factsheet, with most of this exposure in long-dated UK gilts, he said.
That said, gilts are not the only source of sovereign bond exposure in the portfolio, he noted, pointing to the small but growing allocation to Japanese government bonds and 10-year Treasuries.
This rising sovereign bond exposure was a more recent development in the portfolio, he explained.
“From 2020 to about 2022, we were outright underweight fixed income,” he told Portfolio Adviser. This worked out very well for the team, but as yields have broken out to new highs, increasing the allocation to sovereign bonds looked increasingly compelling, he explained.
“When I joined the industry, there was a sort of rule of thumb that the yield on a 10-year bond should roughly equal the trend of an economy’s nominal GDP growth.”
With nominal UK GDP growth expected to be around 3% or 4%, the 5% yield investors can get on a 10-year gilt looks highly appealing, he argued.
“That doesn’t speak to the more structural issues such as longer-term debt dynamics, fiscal repression and so on that the market periodically talks about,” he conceded. “But it’s certainly a much better deal than it was a five or six years ago.
“We’ve arrived at a moment where, I think, some value has finally re-entered the bond market.”
See also: UK gilts: The bed on which they lie
