Investors who poured money into bond funds last year are showing little sign of stopping in 2020, adding more downward pressure to yields.
Inflow to fixed-income assets nearly doubled last year to $1 trillion, according to data from Morningstar Inc. With fears about the coronavirus outbreak dimming growth prospects
for the global economy and prompting a search for haven assets, bond funds are on track to exceed this haul in 2020.
“We’re in uncharted territory,” Nikolaos Panigirtzoglou, a JPMorgan Chase & Co strategist, said in an interview. “Based on January flows, it’s going to be another very strong year for bond fund flows.”
Bond funds are just a few weeks away from reaching their longest unbroken streak of inflows since the financial crisis. They have likely benefited from concerns about the impact of the China-US trade war on global economic growth and interest rate cuts by central banks including the Federal Reserve, according to Wing Chan, director of manager research practice for EMEA and Asia at Morningstar Inc.
On their current trajectory, inflows to bond funds in 2020 will almost double last year’s record total, according to a research note from BofA Securities. Allocations to investment grade credit alone are on pace to total $587 billion, representing an increase of 91% from last year.
For JPMorgan, an increasingly plausible explanation for the bond flows is portfolio rebalancing by retail investors, who are reinvesting their equity gains into bonds. It also implies that buying of stocks may have reached a peak, acting as a constraint to a further equity-market rally, Panigirtzoglou said.
“If the rebalancing theory is correct, fixed income is structurally supported here by retail investors,” he said. “If you have another $1 trillion going into bond funds, forget about yield-curve steepening.”
But an easing of fears around the virus outbreak or resurgent inflation could spell a loss of momentum for bond funds, according to John Velis, a strategist at BNY Mellon, in a research note. Portfolio rebalancing flows, alongside similar trades being made by risk-parity funds, are vulnerable to “large drawdowns” if there is a change in market narrative, he said.
The wall of fresh money hitting fixed income means “yields are likely to grind lower,” said Hayden Briscoe, head of fixed income for Asia-Pacific at UBS Asset Management in Hong Kong. He prefers high-yield debt within credit, and recommends substantial overweights to the US and China among government bonds.
“Inflows to Asia should continue amid the ongoing search for yield across emerging markets,” according to Joep Huntjens, head of Asian fixed income at Netherlands-based NN Investment Partners, citing spreads on high-yield bonds in the region which are currently around double those for similarly rated US counterparts, alongside lower sensitivity to interest rates.
“Excess liquidity to combat deflation continues to fuel twin bubbles in scarce ‘yield’ and scarce ‘growth’ assets,” the BofA Securities analysts said, adding that they expect the US 10-year Treasury yield to test all-time lows, implying a decline of about 25 basis points from current levels of around 1.58%.