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Paul Read: how to buy bonds in a time of rising interest rates

Paul Read: how to buy bonds in a time of rising interest rates

According to the investment horoscope of Paul Read, industry stalwart and co-head of Invesco Perpetual’s fixed interest team, equities are the place to be for steady returns in 2016.

Even so, while the outlook for bonds remains comparatively bleak, Citywire A-rated Read is still unearthing pockets of opportunity.

‘One needs to be careful,’ Read warned. ‘While the credit market as a whole is less expensive, bond yields are still very low, and in many cases the yield increase of bonds we would want to buy has been modest. So while arguably we are beginning 2016 in a slightly stronger position than 2015, we remain cautious.’

Among the biggest clouds hanging over bond markets is the US interest rate cycle, which kicked off in December after much deliberation with a widely forecast, and therefore largely priced-in, initial hike of 0.25%.

However, despite the Federal Reserve’s successful avoidance of broader 1994-esque shock, Read is wary that the longevity of the zero-interest rate rise environment could expose the naivety of less-experienced investors, leading to increased market volatility.

‘A lot of people in the market now have never had the experience of trading through a rate tightening cycle,’ he said.

‘There is a real risk that now the tightening cycle has begun the market could start to price in more hikes. This could in turn lead to greater volatility, particularly within the government bond market.’

Another issue is widening high yield spreads in high yield, which Read believes will provide opportunity.

‘You need to be very careful about looking at generic spread widening and deciding that a market is cheap,’ he explained. ‘There is a lot of sector and stock-specific influence over where the index is.

‘Having said that, what happened in 2015 has led to a slightly more rational high-yield market. Primary-market pricing is improving, and there are some secondary-market opportunities and some stock-picking opportunities in fixed income.’

Still, Read also warned investors not to become overoptimistic about potential returns.

‘Overall I think the high yield market has improved through 2015,’ he said. ‘But investors should still manage expectations about the capital upside and think of this as an asset class that has the potential to provide reasonable levels of income.’

With this in mind, Read’s mixed-asset mandates – which include Invesco Global Income and Invesco Perpetual Global Distribution – are positioned to take advantage of the present climate favouring equities.

‘We like equity as a source of income,’ he said. ‘The very low level of bond yields presents a very low hurdle rate for equities to outperform, and over the medium term we believe there are all sorts of tailwinds supportive of the asset class.’

Likewise, at the debt end of the spectrum the current oppressive environment for bonds dictates a more cautious approach.

‘Given the potential headwinds facing bond markets, with government bond yields low and credit spreads less than compelling, we are defensive across all the funds,’ said Read.

‘We are maintaining a low duration position, preferring to take credit rather than interest rate risk. That being said I also think it is important for us to not stretch for yield because the market is simply not compensating us for doing so.

‘In terms of positioning this means we are focused on the better quality end of high yield bond market, some investment grade corporate bonds and the financial sector. Against this we have a lot of liquidity across the board. This gives us a lot of flexibility so if volatility picks up, we are well positioned to take advantage of it.’

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