'Financial bonds offer an interesting opportunity'
"For more than a decade, European banks have been improving their fundamentals in several aspects, such as capital and asset quality."
3' min read
Key points
3' min read
Philippe Bodereau, portfolio manager and head of credit research in Europe at Pimco, explains what the outlook is for the bond market today with a focus on financial issues.
These are times of great uncertainty, can the bond sector, hitherto recognised as a safer market, be affected by the volatility caused by the geopolitical situation?
During the recent period of renewed uncertainty, high-quality bonds have performed well, and returns over the past year have been comparable to equities, but with less volatility. Starting yields are closely correlated to future 5-year yields, and as yields remain high, we believe that active management of high-quality fixed income can generate high risk-adjusted returns.
What is the outlook for global financial bonds and the European banking sector in particular?
Although further market turbulence may occur due to trade tensions, we continue to believe that financial bonds offer an attractive opportunity for historically high returns from sound institutions. For more than a decade, European banks have been improving fundamentals in several aspects, such as capital and asset quality, and more recently there has been an increase in bank profitability. As a result, we believe they are well placed to weather this period of economic uncertainty.
Could the transition from bank-dominated to a diversified system also be an opportunity for bondholders?
From the perspective of bank bond investors, the shift of some lending activities from banks to non-banks due to increased regulation could further reduce the risk profile of the banking sector and improve its resilience to economic or financial shocks. The shift from bank lending sources to more diversified sources could continue to underpin the strength of the sector's fundamentals, thus providing an additional boost to bank bond investors.
What strategy do you follow in investment management?
Our goal is to provide investors with attractive, risk-weighted total returns through targeted exposure to global financial bonds across the capital structure, without focusing exclusively on AT1 (Additional Tier 1) bonds of European banks. As active managers, we apply extensive bottom-up research to build a diversified portfolio, paying particular attention to specific bond structures while integrating Pimco's macroeconomic investment process. We generally favour high-quality bonds, favouring debt from national champions with diversified income streams, ample capital reserves and solid equity valuations. We are also very selective in evaluating investments in smaller or less resilient institutions. As a result, our strategy has a higher average rating and less concentration than a pure AT1 allocation.
