Points to a preference for core euro-area debt over markets with more political risk, with French and Italian bonds treated as opportunities to wait for rather than buy now. Gilts carry the clearest event risk into the Budget, and the concern is that a smaller fiscal buffer would be poorly received, even if a large sell-off is not expected. The view that too many rate hikes are priced in leaves room for yields to ease over time, though not quickly. These are one investor’s opinions rather than a market consensus, so moves in gilts and euro-area spreads will depend on the detail of the Budget and incoming growth data.
–
A European fixed income head is leaning on German and Spanish debt, steering clear of French and Italian political risk, and watching the UK Budget for any squeeze on fiscal headroom.
Summary:
- David Zahn, head of European fixed income at Franklin Templeton, says European growth has been stronger than expected but is likely to fade from early next year as higher gas prices and interest rates bite.
- He believes markets are pricing in too many rate hikes in Europe and the UK, and that the European Central Bank may want to take back some of its earlier increases.
- He is overweight Germany and Spain, seeing them as the most stable markets, and underweight France and Italy because of political noise and Italy’s election next year.
- He holds a small position in 10-year gilts but is cautious on UK fiscal and political uncertainty.
- His main worry for the October 28 UK Autumn Budget is a cut to fiscal headroom, and he would not be surprised by further tax increases.
- He says bonds now offer around 5% in the UK and around 4% in Europe, and remains positive on green bonds.
David Zahn, head of European fixed income at Franklin Templeton, says European growth has held up better than expected but is likely to lose momentum early next year, as higher gas prices and interest rates weigh on activity. Said he expects growth to slow significantly and that the European Central Bank may eventually want to take back some of its earlier rate increases.
Zahn argues that markets have priced in too many rate hikes across Europe and the UK, and that the recent rise in yields will itself act as a drag on growth. He does not, however, expect yields to fall quickly.
His positioning reflects a preference for stability. Zahn is overweight Germany and Spain, which he regards as the two most stable markets in the region, and also holds positions in Poland and Romania. He described Germany as the world’s triple A asset and said its growth profile is improving even as the government spends heavily. He is underweight France and Italy, citing political noise in France and an election in Italy next year. On France, he does not expect spreads to narrow meaningfully before April or May at the earliest, depending on polling, and sees that as a possible opportunity but not yet. In Italy, he expects the government to ease the budget and lift spending ahead of the vote, with a still high debt stock a concern for longer-dated bonds.
Despite those cautions, Zahn said bonds now offer reasonable income, with around 5% available in the UK and around 4% in Europe. That, in his view, makes them more attractive relative to equities than before, since a bond held to maturity returns what was paid for it. He also remains positive on green bonds, which he said have cheapened.
In the UK, Zahn holds a small position in 10-year gilts, which he said have outperformed French and Italian bonds, but he is not heavily invested because of fiscal and political uncertainty. He sees the Autumn Budget on October 28 as a growing event and said the main risk would be a cut to fiscal headroom, given how volatile markets have become. He would not be surprised by further tax increases and does not expect the gilt market to react well, although he does not foresee a large sell-off.
This article was written by Eamonn Sheridan at investinglive.com.