Opalesque Industry Update - Investors are still underestimating the risks of investing in sovereign debt in the 'new normal' economic environment and remain over-exposed to their domestic markets, says Jon Mawby, manager of the GLG Strategic Bond Fund.|
Mawby, whose fund has delivered a first quartile return of 20.8% since launch in November 2011, says that despite media attention on bond valuations and talk of a ‘Great Rotation’ out of fixed income, investors are yet to fully grasp the risks of investing in sovereign debt, particularly that of the traditional safe haven countries.
“Today, global diversification is particularly important because of the risks associated with sovereigns through the socialisation of banking system debt,” he says. “Investors are simply not used to having to think about sovereign debt dynamics in this 'new normal' environment and are probably underestimating the risks involved. They need to consider that previous safe havens have increasingly precarious fiscal balances that could lead to more ratings pressure whilst emerging market countries that were perceived as riskier investments are on improving growth and ratings trajectories.”
Against this backdrop, Mawby says investors should focus more on the relationship between fundamental strength and value, and consider funds that adopt a dynamic asset allocation process across asset classes, sectors and geographies. However, he believes this change of approach has only occurred on a limited scale both on an investor level and in terms of funds that claim to be global but are often skewed towards their domestic market.
“Portfolio diversification is one of the most important elements in modern finance yet investors routinely hold portfolios that are either fully domestic or have a substantial skew towards their home country,” he says. “That is a big issue because home bias tends to produce a much poorer investment mix. Monetary and fiscal regimes are not static and in today’s world of austerity and central bank liquidity provision the ability to allocate globally is vitally important. Being too focused in a single geography can lead to significant problems at a portfolio level, be it in terms of single issuer default risk or more broadly with the ability for portfolios to access liquidity in the most efficient manner.”
Moreover, Mawby points out that, historically, globally diversified portfolios have tended to deliver a superior return per unit of risk than geographically focused funds; a trend he expects to continue even in today’s interconnected economic environment.
“It is true that in an increasingly globalised world systemic risk results in higher correlations in times of stress,” he says. “But global bond funds remain important because they offer exposure around the globe for various types of growth regardless of where it takes place. Plus, of course, the ability to source liquidity and ideas from a global opportunity set can both increase sources of return and reduce the risk of a portfolio being reliant on the inflation and interest rate expectations of a home country.”