Update Bonds: The calm before the storm?
This week, the inauguration of Donald Trump as the 47th US President was a pivotal event. It symbolizes a potential shift in geopolitical dynamics and economic policies that could impact the bond market.
Despite the significance of this transition, the effect on sovereign yields remains limited. US ten-year yields currently stand at around 4.6%, having recently neared 4.8%; and ten-year Bund yields are at around 2.52%. An easing trend has persisted, bolstered by last week's slightly better-than-expected US inflation figures.
At the World Economic Forum in Davos, European Central Bank (ECB) President Christine Lagarde reaffirmed the ECB's commitment to a measured approach in monetary policy easing. She underscored that the ECB is on a consistent and gradual easing trajectory, with the 2% inflation target coming within reach as the disinflation process progresses.
In the credit market, US investment-grade bond spreads have remained stable year-to-date at around 79 basis points, near their lowest point since early 2024 and well below the historical average. This stability suggests a "wait and see" approach, supported by resilient US growth and progress on disinflation. In Europe, spreads have slightly tightened year-to-date to around 96 basis points, backed by a disinflationary trend and expectations of ECB rate cuts to stimulate the economy.
High-yield (riskier) assets have benefited from a supportive trend for similar reasons as the investment-grade sector. US high-yield spreads have tightened by an additional 25 basis points year-to-date, reaching around 256 basis points, which is well below the historical average. European high-yield spreads have remained stable at around 300 basis points, also below historical averages.
Following Trump's inauguration, we are beginning to see what the next four years might hold. However, uncertainties persist regarding the scope of his policy implementations and reforms. It is therefore difficult to anticipate market reactions. Despite attractive yields in emerging markets and high-yield bonds, we remain cautious, due to the potential impact of higher rates on risky assets and valuations that we believe remain expensive. Consequently, we favour higher-quality bonds offering more attractive risk premiums, as they are likely to perform well even amid limited growth in Europe.