By Robin Marshall, director of fixed income, Global Markets Research
Despite a return in risk appetite in the second quarter, long duration government bonds have remained the top performing fixed income asset in 2020. For example, 20-year+ US Treasuries have registered returns of almost 22% in US dollar terms this year (to end-June). UK gilts made gains of nearly 18% in sterling terms, although for a dollar investor, this was reduced to 10% due to currency weakness. Long-dated Canadian and German government bonds also held up well year to date, despite yields edging higher in June (also see Chart 2).
As huge QE programs were put to work in Q2, credit, notably high-yield bonds, benefited from renewed risk appetite, particularly after the Fed and ECB signaled high-yield credit purchases. Both US and European high yield bonds bounced back, delivering gains of up to 14% in US dollars. US investment-grade credits now show positive returns for a dollar investor in 2020, despite the sell-off in Q1.
Chart 1: Bond returns over three months and year to date, in US dollars
Source: FTSE Russell. Data as of June 30, 2020. Past performance is no guarantee to future results. Please see the end for important disclosures.
…and Q2 inflation-linked rally may suggest investors seek inflation protection from helicopter money
Apart from the credit and risk rally in Q2, the other significant feature of performance returns was the rally in inflation-linked government bonds in Q2, as oil prices and inflation expectations rebounded, and major QE programs were announced. Long-dated UK inflation-linked bonds offered the best returns (16%) despite not being included in the Bank of England's QE purchases. Long-dated Australian and New Zealand inflation-linked bonds offered returns of 20% and 22%, respectively. Demand for inflation protection, despite the huge demand shock from COVID-19, may signal investors are looking ahead to an inflation rebound should the end-game for policy be helicopter money (e.g., money-financed fiscal expansion). Statistical agencies have also conceded that inflation measurement issues are rife, given the difficulties in capturing accurate price data, and changes in expenditure weights.
Chart 2: Index-linked government bonds are the best performing bond assets in Q2 (Total Return, in USD)
Source: FTSE Russell. Data as of June 30, 2020. Past performance is no guarantee of future results. Please see the end for important legal disclosures.
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