When our Expert Investor Europe’s research team visited Frankfurt in March, they found an elevated interest in absolute return strategies. 45% of interviewed fund selectors said they will increase their allocation to the asset class in the coming year. A year earlier, just 29% planned to do so, while 42% didn’t even use the asset class at the time.
Need to diversify
As a consequence of the record low interest rates and the subsequent end of a 30-year bond bull market, sound returns on fixed income are no longer self-evident. German fixed income investors increasingly see the response to this challenge in stepping up investment in absolute return strategies. A number of the fund selectors our researchers spoke to see the flexible nature of absolute return as its prime force of attraction, enabling them to diversify away from traditional fixed income strategies without compromising their risk profiles.
Fund selectors showed interest in a range of alternative bond strategies, ranging from catastrophe bonds to all-flexible bond funds, with one interviewee saying he sees a ‘Great Rotation’ happening, albeit not from bonds to equities but from bonds to absolute return strategies. Still, a number of respondents had some comments about the asset class, saying it is not focused enough and needs specification.
Traditional bonds out of favour
Frankfurt-based fund selectors mainly resort to absolute return strategies because they are repelled by short- and medium-term return prospects on developed market bonds. Though most fund selectors we interviewed are already heavily underweight developed government bonds, a significant number of them will decrease their allocation even further during the coming year. Still, some investors we spoke to continue to see value in peripheral bonds, expecting spreads to compress even further this year.
A majority of German fund selectors has given up on high yield for now, saying spreads have come in too much leaving no upside potential for the asset class, especially on the long term. Considering the record-low interest rates on high yield, some investors explicitly mentioned their worries about a possible crash of the asset class. The rare bulls on high yield focus on the short end of US high yield, lured by ‘still attractive’ interest rates.