The lag is over.
Most economies should, theoretically, now be feeling the full force of high interest rates that first lurched into a new rising cycle late in 2021.
Nik Persic, Bentham Asset Management deputy chief investment officer, said the impact of interest rate hikes typically take 12-18 months to flow from the initial monetary policy move upwards to real-world economic impacts.
By that gauge, the global economy is smack-bang in the danger zone but the interest rate theory hasn’t played out quite to plan, Persic said.
“Economies have been resilient to date,” he said, with unemployment low and solid growth, especially in the US. “There’s increased confidence that we can avoid the worst.”
Nonetheless, Bentham has positioned its flagship fund – available as NZ dollar-hedged Australian unit trust and a portfolio investment entity (PIE) – for a peak, or near top, rates scenario, tilting towards duration while dialling-down credit exposure.
According to the Bentham Global Income Fund March update: “Investment markets are pricing in both a rate cutting cycle starting later this year and a continuation of positive earnings growth from companies. While cash rates are now on hold in most G10 countries, monetary policies are currently quite restrictive. We remain cautious on the investment return outlook as we believe the market may be underestimating the economic risk from the lagged impact of recent cash rate hikes.”
Persic said the core fixed income strategy now has duration, or exposure to government bond interest rate risk, of about 5.4 years – a hefty increase on the low point early in 2022 when the fund briefly fell into negative duration.
However, the current Bentham duration weight is expressed largely out of US government bond markets where “there is more upside risk” of stubborn inflation and higher-for-longer rates, he said.
Compared to the US, economies in Europe and Australasia, for example, appear more fragile, giving central banks room to ease rates with a flow-on increase in bond capital values.
But volatile economic data and rising geopolitical tensions have bond investors on edge.
Indeed, even since Persic made a brief visit to NZ earlier this month, rates in the US spiked higher on persistent inflation figures and good employment numbers.
Complicating the economic/rates picture further, however, the tit-for-tat exchange of missiles and drones between Iran and Israel mid-April has seen investors dive for safety.
After more than 18 months of rising rates and no clear signs of cuts yet, the corporate sector is also holding up remarkably well with default levels still low by historical standards.
From an almost all-in exposure to credit early in 2022, however, the Bentham fund has wound-back the risks of late, reallocating to the higher end of investment grade and leveraged loans parts of the market.
While bond and credit risks remain nuanced, fixed income investors have, at least, been able to dine out on the higher rates.
The Bentham flagship fund, for instance, reported a yield-to-maturity of 7.1 per cent and a running yield of almost 9 per cent as at the end of March. Bentham has about $100 million in the NZ-hedged Australian unit trust and a further $20 million plus in the PIE version.
“Yields have been much more attractive,” Persic said, allowing risk-averse retirees, for instance, to lock-in rates at levels unthinkable even two years ago.
For some investors, anyway, the lag has been worth the wait.