Speaking at the asset manager’s national briefing, head of multi-asset and fixed income, Sebastian Mullins, linked the long-standing underperformance of Australian credit and bonds to the Reserve Bank of Australia (RBA)’s very gradual approach to easing policy rates.
While this was necessary to combat sticky inflation for some time, Mullins said this year, the market has finally made a comeback – one which he expects will only improve.
“We are expecting Australian credit to outperform the rest of the world, just given valuations and the lag we’ve seen Aussie credit over the last few years,” he said.
Schroders’ head of fixed income, Kellie Wood, explained that the current economic cycle is very different to what’s been seen over the last decade.
Given significant macroeconomic volatility and rising inflation across the board, world economies are experiencing varying rates of growth and inflation and are at different stages of their policy cycles.
According to Wood, this has necessitated more active management of country exposure by the asset manager.
She said while fixed income returns have, for some time, been operating in a “Goldilocks period”, seeing most funds deliver between 7 to 10 per cent over the last year, where the cycle heads to next could be interesting.
Zooming in on the US economy, she was bearish on the future outlook, arguing it could move into a reflationary environment due to the impact of tariffs, which have effectively landed at about 17 per cent on US imports.
She said there is also a real possibility that the US economy is heading towards stagflation – a very bad environment for most risky assets, such as credit funds.
“We’ve already started to see the slowing in manufacturing in the US, in services, and now we’re seeing weakening in labour demand,” she said.
In contrast, the situation in Australia appears to be far more positive.
“We’re looking at the rates and credit exposure, and thinking about where we’re seeing value, what asset classes are best supported by an easing of the cycle, and that is in Australia,” she said.
Wood said the RBA now has an opportunity to “engineer a soft landing”, predicting that the central bank will cut rates this month and twice more over the next year, bringing mortgage rates down to approximately 3 per cent.
With this in mind, going forward, a key theme for the fund is prioritising Australian-denominated assets over global ones – a significant shift from their strategy over the past few years.
The asset manager has now shifted a significant portion of its Australian interest rate exposure to the middle of the curve, effectively betting on the back end to begin performing.
Mullins added that the recent strategic shift favouring Australian assets over global ones comes as the US dollar has weakened and the Australian dollar is now considered to be fairly valued.
As a result of the weakened US dollar turning global investors away from the greenback, Mullins also discussed the recent trend of repatriation of global currencies, particularly in Japan, where inflation has finally returned.
Mullins noted that following the so-called “Liberation Day” tariff announcement back in April, many countries – not just Japan – began to de-dollarise, including Germany and Korea.
As is generally the case with a weakened US dollar, he explained that this has led emerging market bonds and equities to perform well, as well as other currencies including the euro.
He said investors could benefit and protect themselves by diversifying their currency exposure more generally, including into currencies like the yen and Swiss franc, as well as alternative assets such as bitcoin.
