In corporate bonds, priority is given to short maturities and solid investment grade issues

What is the current global interest rate environment and how is it affecting the bond market? "The current interest rate environment is characterised by high volatility, with dynamics pushing rates up and down simultaneously." Thus begins Daniele Paglia, Senior Portfolio Manager at Swisscanto, in explaining the dynamics that are affecting the bond market. Uncertainty over tariffs could cause a drop in international trade and economic activity, leading to lower rates. Tariffs-induced inflation and rising fiscal deficits, on the other hand, could push up rates. However, this is not affecting global corporate bond spreads, which are protected by high investor demand generating strong flows into the asset class.

The bill recently passed by Congress will put the US on a dangerous fiscal path, significantly increasing the need for new issuance in the coming years. Together with a possible reduction in demand from foreign investors, this could lead to permanently higher US rates and steeper yield curves. This would also put pressure on global bond markets and increase rate volatility. Conversely, the deteriorating creditworthiness of governments globally is driving investor interest in solid corporate issuers.

In such a complex situation, the best opportunities in fixed income are those with a short interest rate duration and a risk premium exposure to solid investment grade issuers. Corporate hybrids meet both requirements and are therefore experiencing growing demand.

These are subordinated bonds issued by investment grade non-financial companies. Issuers usually operate in sectors such as utilities, energy and telecommunications, with strong recurring investment needs. Rating agencies rate corporate hybrids two levels below senior bonds and assign them 50% equity credit. This allows issuers to refinance their investments while maintaining their credit profile, without issuing shares, which are more expensive. For investors, corporate hybrids are very attractive because they offer an attractive premium over senior bonds of the same issuer, without having to compromise on credit quality.

We like the telecommunications sector because it is not cyclical and is in a favourable phase. The peak of investment in fibre and 5G is behind us and free cash flow generation is increasing. The wave of low-cost operators is retreating and in many markets prices are becoming more rational, benefiting margins. As European telecoms have become very expensive, we prefer Canadian issuers in US dollars. Another interesting sector is energy, a hedge against geopolitical turmoil. We find attractive issuers such as Harbour Energy, with low oil price break-even, production in stable countries and well diversified oil and gas.