Global growth concerns have intensified since year-end. Ongoing trade disputes and a slowdown in China have conspired to markedly slow down global trade activity and materially impact global manufacturing activity, most notably in the eurozone. Despite these headwinds, we expect global growth to remain on a positive trajectory with US growth remaining resilient and Europe and China regaining their footing as risks over a “hard Brexit” and trade uncertainties recede. Here we provide a summary of the key drivers behind our global outlook, how we’re positioned in broad market portfolios and a more detailed description of where we see value in today’s markets.

The “Big Picture” section provides an at-a-glance compilation of our current views for major regions and sectors, including a simple dashboard of our sentiment for each distilled down to either positive (+), negative (–) or mixed (+/–) along with brief commentary.

KEY DRIVERS
US: Recession Fears Are Overdone

In the US, we expect growth in the 2.0%-2.25% range in 2019 and inflation similar to that of 2018. Last year, when growth appeared to be booming, we thought conditions would moderate, and indeed they have. Rapid growth in 2017-2018 was driven by strong increases in capital spending and some anomalous improvements in foreign trade and inventories. We thought the latter two would fade. Also, we thought that homebuilders’ production had gotten ahead of demand, so that housing starts and residential construction activity would have to moderate to bring inventories of unsold new homes back under control.

This is indeed what we have seen in the economic data. Export growth has moderated, import growth has resumed, inventory growth has levelled off and homebuilding has fallen back mildly. Capital spending is still growing, albeit a bit more haphazardly than in most of 2017-2018. Consumer spending was not part of the economic pick-up in 2017-2018, and it has not slowed materially as of late. Growth has slowed, but nowhere is there substantive weakness that would threaten the continuation of expansion. (The partial government shutdown that ended in late January does appear to have injected some choppiness into payroll job and retail sales data, but the downs there were preceded and succeeded by ups, so that the underlying trends for both appear to be unchanged.)

The Fed Reserve’s (Fed) pronouncements last year of four rate hikes in 2019 were predicated on continued strong economic growth. As reality has instead come into line with our slower-growth outlook, the Fed has understandably pulled back on the aggressiveness of its hiking regime. We expect the Fed to hold back from any additional rate hikes and maintain its “wait-and-see” strategy at least through the rest of this year. The Fed’s overarching goal is to protect and extend the economic recovery in the US. Further rate hikes would work against that objective by potentially slowing growth. In fact, to prevent an inverted yield curve that would suggest recession, the Fed may even cut rates this year. Keep in mind that the Fed is increasingly concerned about low inflation, as inflation expectations are materially below the Fed’s 2% objective.

Europe: Down but Not Out

A confluence of domestic and global factors have led us to materially revise lower our growth forecasts and we now estimate 2019 eurozone growth to come in around 1%. Our forecast factors in a weaker outlook for Germany and Italy and to a lesser degree for France and Spain. It also reflects the continued drag on the region’s external sector from weaker global manufacturing and trade, ongoing Brexit uncertainty and renewed global growth concerns. Consequently, we have also revised lower our expectations for eurozone core inflation, although we still believe this will gradually rise during the course of the year. Responding to the softer economic outlook, the European Central Bank (ECB) has signaled that policy will remain accommodative for as long as necessary.

In its March 2019 meeting, the ECB substantially revised down its growth and inflation forecasts over the next three years. The ECB extended its forward guidance for unchanged rates by three months from September 2019 to December 2019 and announced plans for a TLTRO III (targeted longer-term refinancing operations) to aid bank lending to the real economy. ECB President Mario Draghi highlighted the high level of uncertainty buffeting markets but re-iterated that the probability of recession and inflation becoming de-anchored remained low. However, the market is currently pricing unchanged interest rates through to December 2021.

Key risks to our European view that remain are potential negative developments in global growth, Italy and the UK. In Italy, political noise and ongoing fiscal concerns have contributed to some flight-to-quality into German government bonds, but at this juncture we don’t think this story has the potential to further derail the eurozone growth outlook. Likewise, continued uncertainty surrounding Brexit negotiations between the UK and the EU represent a substantive risk should a “no deal” Brexit be forthcoming, but we still expect this outcome to be avoided. Overall, we believe the eurozone will escape recession and settle back to trend-like growth levels and this is reflected in our downgraded growth forecast.

Asia: Resilient Despite China-Related Headwinds

Against the recent backdrop of weaker global growth and concerns over a protracted China slowdown, the better-than-expected March manufacturing Purchasing Managers’ Index (PMI) releases for Asia (China, South Korea and Taiwan) give us grounds for optimism. In particular, the China PMI surprised meaningfully to the upside with forward-looking indicators such as new orders and new exports suggesting that recent policy easing is gradually gaining traction and points to further improvement in the months ahead. This is important as the Asian business cycle often leads Europe.

China’s slowdown has heightened market speculation around the proper mix and efficacy of recent stimulus measures. We believe the Chinese authorities have initiated a sufficiently wide range of measures (for now) intended to address the recent decline in consumption demand and the deterioration in the employment outlook. At the 2019 National People’s Congress held last month, Premier Li Keqiang reiterated that stabilizing the country’s economic growth momentum while deepening reform are on the top of Beijing’s priorities. In this vein, the Congress unveiled an updated GDP target of 6.0%-6.5%, a target of 11 million new jobs, more targeted cuts in the reserve requirement ratio (RRR) for smaller banks, lower real interest rates via market reforms and an explicit cut in value-added taxes to support the transportation, construction and manufacturing sectors. We would note that the stimulus measures this time around mainly target the private corporate sector rather than the highly leveraged property sector and state-owned enterprises (SOEs) with low strategic importance.

In our view, China’s growth momentum will remain soft until the second half of the year when the effect of the stimulus measures takes hold. This is key as confidence and stabilization in China’s growth remain key drivers of Asia’s growth momentum. We are also reassured by the fact that the Fed’s recent dovish pivot combined with an uncertain global trade outlook and declining inflation across Asia allows central banks in the region greater latitude to ease monetary policy should it become necessary.

US: Recession Fears Are Overdone

In the US, we expect growth in the 2.0%-2.25% range in 2019 and inflation similar to that of 2018. Last year, when growth appeared to be booming, we thought conditions would moderate, and indeed they have. Rapid growth in 2017-2018 was driven by strong increases in capital spending and some anomalous improvements in foreign trade and inventories. We thought the latter two would fade. Also, we thought that homebuilders’ production had gotten ahead of demand, so that housing starts and residential construction activity would have to moderate to bring inventories of unsold new homes back under control.

This is indeed what we have seen in the economic data. Export growth has moderated, import growth has resumed, inventory growth has levelled off and homebuilding has fallen back mildly. Capital spending is still growing, albeit a bit more haphazardly than in most of 2017-2018. Consumer spending was not part of the economic pick-up in 2017-2018, and it has not slowed materially as of late. Growth has slowed, but nowhere is there substantive weakness that would threaten the continuation of expansion. (The partial government shutdown that ended in late January does appear to have injected some choppiness into payroll job and retail sales data, but the downs there were preceded and succeeded by ups, so that the underlying trends for both appear to be unchanged.)

The Fed Reserve’s (Fed) pronouncements last year of four rate hikes in 2019 were predicated on continued strong economic growth. As reality has instead come into line with our slower-growth outlook, the Fed has understandably pulled back on the aggressiveness of its hiking regime. We expect the Fed to hold back from any additional rate hikes and maintain its “wait-and-see” strategy at least through the rest of this year. The Fed’s overarching goal is to protect and extend the economic recovery in the US. Further rate hikes would work against that objective by potentially slowing growth. In fact, to prevent an inverted yield curve that would suggest recession, the Fed may even cut rates this year. Keep in mind that the Fed is increasingly concerned about low inflation, as inflation expectations are materially below the Fed’s 2% objective.

Europe: Down but Not Out
ECB President Mario Draghi re-iterated that the probability of recession and inflation becoming de-anchored remained low.

A confluence of domestic and global factors have led us to materially revise lower our growth forecasts and we now estimate 2019 eurozone growth to come in around 1%. Our forecast factors in a weaker outlook for Germany and Italy and to a lesser degree for France and Spain. It also reflects the continued drag on the region’s external sector from weaker global manufacturing and trade, ongoing Brexit uncertainty and renewed global growth concerns. Consequently, we have also revised lower our expectations for eurozone core inflation, although we still believe this will gradually rise during the course of the year. Responding to the softer economic outlook, the European Central Bank (ECB) has signaled that policy will remain accommodative for as long as necessary.

In its March 2019 meeting, the ECB substantially revised down its growth and inflation forecasts over the next three years. The ECB extended its forward guidance for unchanged rates by three months from September 2019 to December 2019 and announced plans for a TLTRO III (targeted longer-term refinancing operations) to aid bank lending to the real economy. ECB President Mario Draghi highlighted the high level of uncertainty buffeting markets but re-iterated that the probability of recession and inflation becoming de-anchored remained low. However, the market is currently pricing unchanged interest rates through to December 2021.

Key risks to our European view that remain are potential negative developments in global growth, Italy and the UK. In Italy, political noise and ongoing fiscal concerns have contributed to some flight-to-quality into German government bonds, but at this juncture we don’t think this story has the potential to further derail the eurozone growth outlook. Likewise, continued uncertainty surrounding Brexit negotiations between the UK and the EU represent a substantive risk should a “no deal” Brexit be forthcoming, but we still expect this outcome to be avoided. Overall, we believe the eurozone will escape recession and settle back to trend-like growth levels and this is reflected in our downgraded growth forecast.

Asia: Resilient Despite China-Related Headwinds

Against the recent backdrop of weaker global growth and concerns over a protracted China slowdown, the better-than-expected March manufacturing Purchasing Managers’ Index (PMI) releases for Asia (China, South Korea and Taiwan) give us grounds for optimism. In particular, the China PMI surprised meaningfully to the upside with forward-looking indicators such as new orders and new exports suggesting that recent policy easing is gradually gaining traction and points to further improvement in the months ahead. This is important as the Asian business cycle often leads Europe.

In our view, China’s growth momentum will remain soft until the second half of the year when the effect of stimulus measures takes hold.

China’s slowdown has heightened market speculation around the proper mix and efficacy of recent stimulus measures. We believe the Chinese authorities have initiated a sufficiently wide range of measures (for now) intended to address the recent decline in consumption demand and the deterioration in the employment outlook. At the 2019 National People’s Congress held last month, Premier Li Keqiang reiterated that stabilizing the country’s economic growth momentum while deepening reform are on the top of Beijing’s priorities. In this vein, the Congress unveiled an updated GDP target of 6.0%-6.5%, a target of 11 million new jobs, more targeted cuts in the reserve requirement ratio (RRR) for smaller banks, lower real interest rates via market reforms and an explicit cut in value-added taxes to support the transportation, construction and manufacturing sectors. We would note that the stimulus measures this time around mainly target the private corporate sector rather than the highly leveraged property sector and state-owned enterprises (SOEs) with low strategic importance.

In our view, China’s growth momentum will remain soft until the second half of the year when the effect of the stimulus measures takes hold. This is key as confidence and stabilization in China’s growth remain key drivers of Asia’s growth momentum. We are also reassured by the fact that the Fed’s recent dovish pivot combined with an uncertain global trade outlook and declining inflation across Asia allows central banks in the region greater latitude to ease monetary policy should it become necessary.

Estimated Global Growth Rates
The Big Picture Outlook

Developed Market Rates: Relative Value by Region

US We expect growth in the 2.0%-2.25% range in 2019 and inflation similar to that of 2018. The factors propelling faster growth in 2017-2018—business investment and exports—have moderated a bit, and homebuilding is declining mildly, rather than growing as it did in 2017-2018. We expect these factors will reduce growth to our expected range. However, at this time, we see no serious declines in these areas or others that would threaten the continuation of the expansion.
Canada Canadian policy rates look to be on hold as the expected trend growth rate for 2019 is still offset by energy- and real estate-related risks. The Bank of Canada still describes monetary policy rates as “low” but the interest rate sensitive sectors of the economy have already slowed. Canada’s fiscal situation is in much better balance, opening the door to a more flexible policy response should downside risks materialize.
Europe We now estimate 2019 eurozone growth to come in around 1%. Our expectation reflects a weaker outlook for Germany and Italy (and to a lesser degree for France and Spain), weaker global manufacturing and trade, ongoing Brexit uncertainty and renewed global growth concerns. We have also revised lower our expectations for eurozone core inflation, although we still believe this will gradually rise during the course of the year.
UK While the risks of a “no deal” Brexit have risen recently there is a still higher probability of some kind of Brexit deal or a long delay, which opens up various paths to a “soft” Brexit outcome.
Japan We expect the Bank of Japan (BoJ) to maintain its accommodative monetary policy for some time to meet its 2% inflation goal, which is in line with recent forward guidance. No further easing is expected at this moment.
Australia Growth has slowed down in Australia in line with other developed markets (DM) and we now expect growth of 2.5% in 2019. The Reserve Bank of Australia (RBA) is closely monitoring data and will ease policy if employment growth, which is currently strong, falters as inflation is below target. However, with the government back in surplus, the RBA may get some assistance from fiscal policy, particularly as this is an election year.

Relative Value by Sector

IG Corporate Credit
US
Outlook Corporate fundamentals continue to be positive, although we maintain a cautious bias toward sectors such as food and beverage, healthcare/pharmaceuticals and automotive. While the Bloomberg Barclays US Credit Index has rallied 30 basis points since year-end, we remain overweight risk on the back of increasing optimism around various macro challenges. Dovish central bank policy is also very supportive for US investment-grade credit (IG), which remains a go-to asset class for attractive income.
Relative Value +/– Our focus continues to be on banking, energy, and metals and mining; these are sectors where positive fundamental trends currently remain intact and where we are likely to see further upgrades from the ratings agencies.
Europe
Outlook European corporates continue to take a measured approach to leverage, enabling them to weather some softness in earnings. Bank capital growth has been meaningful but profitability remains challenged.
Relative Value + We have a bias to financials over non-financials given their strong balance sheets and available spread pick-up.
Australia
Outlook Fundamentals remain strong as management retains a conservative attitude to balance sheets alongside solid profitability. Limited issuance and maturities in 2019 should also assist on the technical front.
Relative Value + We maintain overweights to specific sectors, but hold a short duration focus to manage spread risk; sector biases remain in financials, REITS and regulated utilities.
High-Yield Corporate Credit
US
Outlook Following material spread tightening in the US high-yield market, we recognize that income generation (carry) will likely provide the bulk of future returns given valuations. Credit fundamentals continue to remain broadly sound, albeit there are pockets of weakness to be vetted once again showing the importance of active management/issue selection/avoiding impairment. Favorable technicals given inflows into the asset class and limited primary supply may breed further spread compression considering the low default rate environment and wide open access to capital.
Relative Value + We remain underweight CCCs given valuations and the late stage credit cycle; we are overweight metals and mining (e.g., copper), consumer cyclical services, financials, rising-star candidates and maintain allocations to bank loans and CLO tranches (specifically BBB/BB).
Europe
Outlook Corporate earnings have been reasonable so far. We are watching for near-term regional growth risks and on an industry basis the auto and retail sectors. Technicals are currently supportive with minimal net issuance and some retail inflows.
Relative Value +/– Given the rally, yields and spreads have quickly retraced lower back to sub 4%—levels last seen in October 2018. Look for opportunities in the primary market. The new-issue calendar is beginning to build, but so far remains focused on high-quality refinancing.
Bank Loans
US
Outlook CLO demand will continue to drive the market technicals (70% of the loan buyer base), and we anticipate steady growth in the near-term. We continue to see stable underlying fundamentals and expect moderate growth in the coming quarters for corporates. A carry-focused strategy will prove attractive and favors bank loans in the current environment.
Relative Value + Focus continues to be on loan tranches in the $500 million to $2 billion segment of the loan market, where we believe we can extract the most value through higher long-term returns with lower volatility.
Structured Credit
Agency MBS
Outlook We are constructive on mortgages given our view of range-bound rates and attractive hedge-adjusted carry. However, concerns regarding government- sponsored enterprise (GSE) reform, Fed policy changes and refinance risk warrant some caution.
Relative Value +/– We are positive on MBS versus US Treasuries and favor lower coupons and agency CMBS.
Non-Agency Residential MBS (RMBS)
Outlook We are constructive on housing fundamentals and expect modest home price growth over the coming years, with limited downside risks as housing appears reasonably valued and supported. Credit underwriting standards are historically high, making the quality of new loan production strong.
Relative Value + We are positive regarding the credit risk of GSEs and recently issued non-agency loans as well as re-performing loans and securities.
Non-agency Commercial MBS (CMBS)
Outlook We remain constructive on the CMBS market due to broadly positive commercial real estate fundamentals and a favorable economic outlook; however, we expect the fundamental outlook to be uneven across property types and markets.
Relative Value + We are positive on short-duration, well-structured single-borrower securitizations and loans; in conduit deals we see better value in AAA rated bonds.
Asset-Backed Securities (ABS)
Outlook We remain constructive on consumer fundamentals and the current state of leverage; we expect opportunities to exist in well-protected, off-the-run sectors, which offer attractive risk/return potential.
Relative Value +/– We are constructive regarding off-the-run senior high-quality ABS sectors, such as Federal Family Education Loan Program (FFELP) student loans, auto floor plans and rental cars.
Inflation-Linked
US
Outlook The level of breakeven inflation spreads has moved closer to fair value versus actual inflation. Overall, medium-term inflation expectations should remain muted relative to historical levels. Any additional upside would likely require higher core inflation data in the US.
Relative Value +/– In the near-term, we prefer to maintain an overweight in US real yields combined with tactical positioning in nominal bonds to manage overall duration exposure.
Europe
Outlook European breakeven spreads have fallen sharply recently discounting the rebound in oil prices which has benefitted other index-linked markets. We expect headline inflation to average 1.20% in 2019 which is higher than the level priced in the swap and cash markets. Thus we expect some gradual catch up to oil prices and fundamentals in 2Q19.
Relative Value +/– In index-linked accounts we remain short both nominal and real yields.
Municipals
US
Outlook We continue to see strong fundamentals in the overall municipal market due to a number of factors, including low unemployment, steady tax revenues and modest budgetary spending proposals; adjusted for ratings, municipal bonds are attractive versus their taxable counterparts for maturities 10 years and greater.
Relative Value + We remain focused on idiosyncratic risks over “market beta”; we favor revenue bonds over general obligation debt.
EM Debt
EM Sovereigns (USD)
Outlook Despite uncertainty about global growth conditions, the Fed’s recent dovish pivot and signs of slowing US growth outperformance are constructive for emerging market (EM) financial conditions and flows. From a technical standpoint, EM remains underrepresented in global bond indices. In this regard, the progressive inclusion of sizable markets, notably China and Gulf Cooperation Council (GCC) countries, will increase the sector’s visibility and investor appetite.
Relative Value + Select investment-grade and high-yield-rated EM USD-denominated sovereigns remain attractive from both carry and total return standpoints. We are currently looking to add exposure to lower-risk GCC countries and attractively priced frontier Market sovereigns, while BBB rated sovereigns appear more fully valued.
EM Local Currency
Outlook A dovish Fed and stable to strengthening EM currencies have taken pressure off EM central banks to tighten policy. EM real yields and differentials versus those of DMs are supportive of the asset class and have scope to compress. The diminishing impact of US fiscal stimulus, and re-introduction of stimulus in China augur well for the resynchronization of global growth. In our view, these factors should be positive for EM local currency debt.
Relative Value + We currently find local rates to be the most attractive part of the EM local currency universe given high real yields and a more dovish outlook for EM central banks. We favor the local bonds of stable countries with moderate inflation, including Indonesia, India, Brazil and Russia.
EM Corporates
Outlook EM corporates continue to benefit from a combination of resilient fundamentals and conservative balance sheet management. Unlike US corporations, EM companies have less of a focus on share buybacks/M&A and have continued to reduce debt after the 2014-2016 commodity price and political crises. While the overall market shows robust bond issuance, EM corporate net issuance ex-China remains very low, creating positive technicals for the asset class.
Relative Value + We believe that crossover-rated bonds are the best way to allocate to the EM corporate sector; we prefer companies aligned with their sovereigns and those generating revenues in hard currencies. For higher quality mandates, EM investment-grade corporates offer an attractive complement to US investment-grade allocations given higher spreads, shorter duration, and more favorable issuance/BBB technicals.
Outlook Relative Value
IG Corporate Credit
US Corporate fundamentals continue to be positive, although we maintain a cautious bias toward sectors such as food and beverage, healthcare/pharmaceuticals and automotive. While the Bloomberg Barclays US Credit Index has rallied 30 basis points since year-end, we remain overweight risk on the back of increasing optimism around various macro challenges. Dovish central bank policy is also very supportive for US investment-grade credit (IG), which remains a go-to asset class for attractive income. +/– Our focus continues to be on banking, energy, and metals and mining; these are sectors where positive fundamental trends currently remain intact and where we are likely to see further upgrades from the ratings agencies.
Europe European corporates continue to take a measured approach to leverage, enabling them to weather some softness in earnings. Bank capital growth has been meaningful but profitability remains challenged. + We have a bias to financials over non-financials given their strong balance sheets and available spread pick-up.
Australia Fundamentals remain strong as management retains a conservative attitude to balance sheets alongside solid profitability. Limited issuance and maturities in 2019 should also assist on the technical front. + We maintain overweights to specific sectors, but hold a short duration focus to manage spread risk; sector biases remain in financials, REITS and regulated utilities.
High-Yield Corporate Credit
US Following material spread tightening in the US high-yield market, we recognize that income generation (carry) will likely provide the bulk of future returns given valuations. Credit fundamentals continue to remain broadly sound, albeit there are pockets of weakness to be vetted once again showing the importance of active management/issue selection/avoiding impairment. Favorable technicals given inflows into the asset class and limited primary supply may breed further spread compression considering the low default rate environment and wide open access to capital. + We remain underweight CCCs given valuations and the late stage credit cycle; we are overweight metals and mining (e.g., copper), consumer cyclical services, financials, rising-star candidates and maintain allocations to bank loans and CLO tranches (specifically BBB/BB).
Europe Corporate earnings have been reasonable so far. We are watching for near-term regional growth risks and on an industry basis the auto and retail sectors. Technicals are currently supportive with minimal net issuance and some retail inflows. +/– Given the rally, yields and spreads have quickly retraced lower back to sub 4%—levels last seen in October 2018. Look for opportunities in the primary market. The new-issue calendar is beginning to build, but so far remains focused on high-quality refinancing.
Bank Loans
US CLO demand will continue to drive the market technicals (70% of the loan buyer base), and we anticipate steady growth in the near-term. We continue to see stable underlying fundamentals and expect moderate growth in the coming quarters for corporates. A carry-focused strategy will prove attractive and favors bank loans in the current environment. + Focus continues to be on loan tranches in the $500 million to $2 billion segment of the loan market, where we believe we can extract the most value through higher long-term returns with lower volatility.
Structured Credit
Agency MBS We are constructive on mortgages given our view of range-bound rates and attractive hedge-adjusted carry. However, concerns regarding government- sponsored enterprise (GSE) reform, Fed policy changes and refinance risk warrant some caution. +/– We are positive on MBS versus US Treasuries and favor lower coupons and agency CMBS.
Non-Agency Residential MBS (RMBS) We are constructive on housing fundamentals and expect modest home price growth over the coming years, with limited downside risks as housing appears reasonably valued and supported. Credit underwriting standards are historically high, making the quality of new loan production strong. + We are positive regarding the credit risk of GSEs and recently issued non-agency loans as well as re-performing loans and securities.
Non-agency Commercial MBS (CMBS) We remain constructive on the CMBS market due to broadly positive commercial real estate fundamentals and a favorable economic outlook; however, we expect the fundamental outlook to be uneven across property types and markets. + We are positive on short-duration, well-structured single-borrower securitizations and loans; in conduit deals we see better value in AAA rated bonds.
Asset-Backed Securities (ABS) We remain constructive on consumer fundamentals and the current state of leverage; we expect opportunities to exist in well-protected, off-the-run sectors, which offer attractive risk/return potential. +/– We are constructive regarding off-the-run senior high-quality ABS sectors, such as Federal Family Education Loan Program (FFELP) student loans, auto floor plans and rental cars.
Inflation-Linked
US The level of breakeven inflation spreads has moved closer to fair value versus actual inflation. Overall, medium-term inflation expectations should remain muted relative to historical levels. Any additional upside would likely require higher core inflation data in the US. +/– In the near-term, we prefer to maintain an overweight in US real yields combined with tactical positioning in nominal bonds to manage overall duration exposure.
Europe European breakeven spreads have fallen sharply recently discounting the rebound in oil prices which has benefitted other index-linked markets. We expect headline inflation to average 1.20% in 2019 which is higher than the level priced in the swap and cash markets. Thus we expect some gradual catch up to oil prices and fundamentals in 2Q19. +/– In index-linked accounts we remain short both nominal and real yields.
Municipals
US We continue to see strong fundamentals in the overall municipal market due to a number of factors, including low unemployment, steady tax revenues and modest budgetary spending proposals; adjusted for ratings, municipal bonds are attractive versus their taxable counterparts for maturities 10 years and greater. + We remain focused on idiosyncratic risks over “market beta”; we favor revenue bonds over general obligation debt.
EM Debt
EM Sovereigns (USD) Despite uncertainty about global growth conditions, the Fed’s recent dovish pivot and signs of slowing US growth outperformance are constructive for emerging market (EM) financial conditions and flows. From a technical standpoint, EM remains underrepresented in global bond indices. In this regard, the progressive inclusion of sizable markets, notably China and Gulf Cooperation Council (GCC) countries, will increase the sector’s visibility and investor appetite. + Select investment-grade and high-yield-rated EM USD-denominated sovereigns remain attractive from both carry and total return standpoints. We are currently looking to add exposure to lower-risk GCC countries and attractively priced frontier Market sovereigns, while BBB rated sovereigns appear more fully valued.
EM Local Currency A dovish Fed and stable to strengthening EM currencies have taken pressure off EM central banks to tighten policy. EM real yields and differentials versus those of DMs are supportive of the asset class and have scope to compress. The diminishing impact of US fiscal stimulus, and re-introduction of stimulus in China augur well for the resynchronization of global growth. In our view, these factors should be positive for EM local currency debt. + We currently find local rates to be the most attractive part of the EM local currency universe given high real yields and a more dovish outlook for EM central banks. We favor the local bonds of stable countries with moderate inflation, including Indonesia, India, Brazil and Russia.
EM Corporates EM corporates continue to benefit from a combination of resilient fundamentals and conservative balance sheet management. Unlike US corporations, EM companies have less of a focus on share buybacks/M&A and have continued to reduce debt after the 2014-2016 commodity price and political crises. While the overall market shows robust bond issuance, EM corporate net issuance ex-China remains very low, creating positive technicals for the asset class. + We believe that crossover-rated bonds are the best way to allocate to the EM corporate sector; we prefer companies aligned with their sovereigns and those generating revenues in hard currencies. For higher quality mandates, EM investment-grade corporates offer an attractive complement to US investment-grade allocations given higher spreads, shorter duration, and more favorable issuance/BBB technicals.