PIMCO is tipping bonds to outperform equities over the next five years, citing historical precedents for a fixed income resurgence in a recent investor note.
“Looking back at bond and equity markets on average since 1973, during similar periods when U.S. core bonds are yielding around 5% or greater while U.S. equities’ earnings ratios are around 30 or higher, bonds have offered higher five-year subsequent returns, and with potentially lower volatility,” the note says.
Perhaps that’s not a surprising comment coming from the world’s largest active bond manager but PIMCO says yield numbers alone should give fixed income a relative edge compared to equities over the next few years.
“High quality fixed income starting yields – which are highly correlated with five-year forward returns – are 5.10% based on the Bloomberg US Aggregate Index, and 4.91% based on the Global Aggregate Index (U.S. dollar hedged), as of 10 January 2025,” the analysis says. “While continued equity gains would require valuations to be sustained well above long-term norms, bonds simply need historical trends to hold to generate attractive returns in line with starting yields.”
Furthermore, the note – authored by PIMCO economist, Tiffany Wilding, and Andrew Balls, global chief investment officer for fixed income – says bonds are ready to resume their traditional role as portfolio buffers if risk assets retreat.
“Favorable global economic conditions, the capital preservation qualities of fixed income, and the potential for capital gains position bonds as a critical element of portfolios in 2025 and a source of diversification to complement exposure to riskier assets,” the report says. “Short-term volatility presents opportunity for active bond managers, while current yields and historical valuation trends suggest more predictable longer-term returns that are likely to be attractive compared with both cash and equities.”
The note, titled ‘Uncertainty is certain’ also echoes renewed concerns about stubborn inflation – possibly egged-on by the new US government tariff policies – putting a brake on Federal Reserve interest rate cuts.
“… after 100 bps of policy rate reductions in 2024, the timing of further Fed cuts has become less certain, indicating a more gradual, data-driven approach in 2025. The futures market has reflected this uncertainty in recent months… Despite the Fed cutting its policy rate by 100 bps during this period, market pricing removed the expectation of 100 bps of additional easing in the year ahead.”
Indeed, the new political regime in the US has stretched the spectrum of possible market scenarios to include both “brighter upsides” and “bleaker downsides”, the PIMCO note says.
But the odds of the US share market meeting the implied great expectations have narrowed.
“Buoyed by expectations of lower taxes and relaxed regulations, U.S. stocks have scaled new heights while credit spreads are near record lows,” the report says. “Although this momentum could continue, history indicates limited room for further sustained gains at current valuations. In contrast, bonds present an appealing opportunity in both the near term and over a longer horizon.”
Global fixed income funds have fluctuated in recent months in line with long-term bond volatility in a trend that saw NZ dollar-denominated strategies report losses in the December 2024 quarter.
According to the latest Melville Jessup Weaver (MJW) investment survey, PIMCO-managed funds recorded the first, second and third-highest quarterly returns of between -0.6 per cent to -0.7 per cent.
Similarly, over the 12 months to December 31 the PIMCO funds (including the Harbour-owned Hunter version and a Fisher Funds vehicle) reported the best results ranging from 3.9 per cent to 4.3 per cent.