Fixed-income outlook and opportunities

Despite volatility in interest rates, the outlook for bond yields is a positive one, says Pablo Martinez, portfolio manager with CIBC Asset Management.

“Bond yields were attractive to begin the year, and they remain attractive right now,” Martinez said in a recent interview.

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At the year’s onset, 10-year Canada government bonds were yielding 310 basis points, he noted.

“We were coming out of a period of financial repression after the pandemic, and finally, yields had moved up,” he said.

In the spring, yields reached about 380 basis points as inflation was stickier. They then trended lower as inflation seemed more under control, and have settled at roughly 3%. 

“We believe that yields will be moving in a range for the most part of 2024,” Martinez said.

Rates are unlikely to move significantly lower, he said, given the market has already priced in a lot of positive news.

“The market is pricing a bit of a Goldilocks scenario,” he said, referring to expectations for a soft landing. “The market’s expecting inflation that will keep slowly adjusting toward the neutral rate … and the central bank that will be able to lower rates without triggering any kind of price spike, especially in housing.”

Martinez also noted factors recently impacting fixed income, including the unwinding of the Yen carry trade in the summer after Japan’s central bank increased its overnight interest rate. Volatility ensued in the stock, rate and currency markets.

Even though that volatility was short-lived, it was “a reminder that when markets reach historical highs, the risk of a curveball increases,” Martinez said.  

Another factor affecting fixed income is investor appetite for corporate debt.

“We have seen corporate bond spreads that have tightened during the year, but they still remain attractive,” Martinez said.

Corporate profits have been steady, which helps enable corporations to service their debt, he said.

There’s still “good value” in three- to five-year corporate bonds, he said. “That’s the sector we find the most attractive, compared to the longer-end corporate curve, where the risk/reward is just not there.”

He continues to favour the energy sector and also added senior housing.

“This is being driven by demographics — the aging of the population,” he said. “It makes it a natural selection for us.” 

And he’s constructive on the auto sector.

“There has been a lot of pent-up demand for autos during the pandemic, and we still see very good demand.”  

He tends to avoid office REITs, he said, noting that the sector has yet to fully adjust to the working-from-home trend. 

When it comes to duration, Martinez said he’s flexible, given bond market volatility.

“If we realize we are getting at the top of the range [of yields] — let’s say three-and-a-half [%] in a 10-year Canada — then we wouldn’t hesitate to dynamically move to increase duration.” 

Most of his team’s active portfolios are currently neutral duration, he said.

“As we are nearing the lower end of our trading range, we want to be prudent,” Martinez said. “We want to maintain a duration that’s close to neutral, and if we realize that yields are a bit overvalued, we would not hesitate to short those bonds.”

This article is part of the Advisor To Go program, powered by CIBC Asset Management. It was written without input from the sponsor.