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I Don't Agree With Trump On Much, Except US Treasuries

VIDEO: The days of 8% yields are gone but there are bond opportunities to be found in the US and Japan, says M&G's Jim Leaviss

Holly Black 22 October, 2019 | 1:28PM



Holly Black: Welcome to the Morningstar series, "3 Stock Picks." I'm Holly Black. With me is Jim Leaviss. He is manager of the M&G Global Macro Bond Fund. Hello.

Jim Leaviss: Hello.

Black: So, we're not really doing three stock picks today, because you're a bond manager, so that doesn't really work. But we are going to talk about three areas you're quite optimistic about. Where would you like to start?

Leaviss: Well, I don't agree with Donald Trump on many things. But I do agree that US Treasury bond yields are too high. If you look around the world, you have negative yields in Japan, negative yields in most of Europe. But in the US, you can still get yields of 1% to 2% by lending money to one of the strongest highest-rated governments in the world. And Trump is right that this is an anomaly. And I don't agree with the pressure he's been putting on the Federal Reserve to cut rates aggressively. But eventually, the Fed will respond to the declining global environment and start cutting federal rates more than priced in and that will be good news for those bond markets. So, we like US Treasuries.

Black: It seems crazy to be talking about 2% yield as being really great.

Leaviss: Yeah, it's awesome.

Black: So, why would that be good for bond investors?

Leaviss: Well, I'm not saying it's back to the glory days of high yields that you could get – you know, when I started you got 8% for investing in gilts. Those days are gone. But also gone is inflation pressures. So, if your underlying inflation rates in Europe are probably under 1%, in the US probably under 1.5%, then 2% yield is giving you a real return, which is quite hard to get in many other asset classes. So, I'm not saying this is going to make anyone rich, and these are fantastic opportunities. But A, the yields are okay, and B, if rates are cut, the prices will go up of those bonds. So, you've got some potential for capital gain, as well as a slightly attractive yield.

Black: Cool. So, where are we going next?

Leaviss: Well, I think the second one is probably the most neglected area of bond and currency markets, and that's the Japanese yen. Everyone has it in their head that Japan is this disaster area that hasn't grown since the end of the 1980s and where everybody's in dire straits, where actually, it's a country with one of the highest GDP perhaps in the world, and unemployment rate probably half that of the US and the UK, not quite, but much lower, certainly. And low crime and very prosperous economy. And yet, people think it's this disaster area. Actually, the Japanese yen is really neglected. You could look at something like The Big Mac Index that's published in the back of The Economist every month, that kind of shows you relative currency valuations around the world. And every single month, the yen comes out as probably being 20% cheap. So, I like the yen, because it's fundamentally wrongly priced, it's 20%, undervalued, and also works really well in the portfolio. Because when you think about currencies, you don't just buy them to take risk and think about returns you might get on the upside, you think about the overall portfolio shape and how you reduce volatility. And the yen is negatively correlated with all risk assets. So, if you're a bit bearish on the state of the world, like I am, the yen will probably do well in that risk-off environment at the same time it's looking really quite cheap.

Black: So, what's that third area we're talking about?

Leaviss: Third area is one I haven't had the courage yet to pull the trigger on, but I think is one that's increasingly looking good value. And as we've seen, developed market bonds all converge down to zero or those very low rates. You see, even in the US, emerging market bonds haven't really moved. In fact, they've kind of gone sideways, some markets have sold-off even. So, Claudia Calich, she runs our Emerging Market Bond Fund here, she's the deputy on this fund. And I'm waiting to discuss with her when we should pull the trigger really to add whatever bonds that yield 6% to 10% in dollars or euros and even more if you go into the local currency market. So, I think the fundamentals for emerging markets are far better than they were a few years ago. They have low debt to GDP. They have great demographics with young people rather than the aging societies we have in developed markets. And they're kind of doing the right things structurally. So, I think over the medium term, emerging market debt looks a really good overweight to have in a portfolio like this. I haven't quite got to the level where I'm prepared to go overweight in that asset class, but what this space.

Black: But presumably you have to be super picky there? Because we have also seen some economic crises. It's not all great.

Leaviss: Yeah. I mean, someone said there are four kinds of countries; developed markets, developing markets, Japan and Argentina. And you know, Argentina is effectively defaulting again this year. And it wasn't so long since the last default there. So, you do have to be picky. But when you're getting yields of 8% to 10%, you can afford to get some things wrong. If I buy European investment-grade bonds, and they are paying me 60 basis points over government bonds, I can't afford a single mistake in my portfolio. One mistake will wipe out any of that yield from my whole portfolio. Yet if I buy some emerging market bonds that are like, so I've already – you know, I'm not just picking with a dartboard – selecting the ones I like, I still can afford to make some mistakes. And that's a good place to be for a fund manager.

Black: Super. Well, thank you so much for your time.

Leaviss: Thank you.

Black: And thanks for joining us.

The information contained within is for educational and informational purposes ONLY. It is not intended nor should it be considered an invitation or inducement to buy or sell a security or securities noted within nor should it be viewed as a communication intended to persuade or incite you to buy or sell security or securities noted within. Any commentary provided is the opinion of the author and should not be considered a personalised recommendation. The information contained within should not be a person's sole basis for making an investment decision. Please contact your financial professional before making an investment decision.

About Author

Holly Black  is Senior Editor, Morningstar.co.uk

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