26 March 2019
Given the low oil price, investor concerns over the energy sector may increase. Photo: Bloomberg
Given the low oil price, investor concerns over the energy sector may increase. Photo: Bloomberg

How to realize positive return with negative yield

Treasury yields of many developed markets are now below zero.

The negative interest rate policy aims to encourage credit expansion and smoothen the yield curve. We believe central banks have been successful in this regard.

In addition, further quantitative easing can boost the sluggish economy and create a favorable environment for fixed income assets by keeping the currencies weak.

For those seeking stable return with relatively low risks, we would recommend investment-grade corporate bonds rather than sovereign bonds.

For most US assets, the potential economic slowdown has been a major risk.

Although the manufacturing industry is still suffering, consumer spending and the property market are steadily recovering.

There are signs that wages and investments could further increase. So it’s not necessary to worry too much about the US recovery in the short term.

Currently, the yield of US investment-grade bonds is at 3.8 percent, about 200 basis points higher than US treasury bonds. They still have attractive valuations.

Although corporates suffer from declining revenues and earnings, losses are mainly seen in the energy, metal and mining industries.

Corporate fundamentals are generally stable. In the fourth quarter of 2015, corporate earnings, excluding the commodities sector, rose 1.5 percent year on year, and the interest coverage was at 11.7 times, higher than the average of 10 times since 2000.

As for US high-yield bonds, they are mostly offered by energy companies. Given the low oil price, investor concerns over the sector may increase.

They may consider European bonds, which can benefit from an economic recovery and have less exposure to the energy sector.

In Europe’s high-yield bond market, only 7 percent are related to commodities, while the ratio in the United States is 15 percent.

The projected default rate of such bonds is 3 percent this year, while the long-term default rate is 5 percent.

We believe that at the beginning of a recovery cycle, the monetary policy will ease and, thus, improve the high-yield bond issuers’ income and earnings.

Although sovereign bonds of developed markets are generally seen as safe-haven assets, US investment-grade bonds and European high-yield bonds have higher investment value.

This article appeared in the Hong Kong Economic Journal on April 18.

Translation by Myssie You

[Chinese version 中文版]

– Contact us at [email protected]


Managing Director, Chief Market Strategist, Asia, J.P. Morgan Asset Management

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