Credit better than sovereigns, says Morningstar OBSR’s Andy Brunner

Andy Brunner, investment strategist at Morningstar OBSR, believes credit offers better fundamental value than sovereigns for investors in the current low yield, low growth environment.

While the global economy is likely to continue its period of sub-par growth through the autumn, a gradual return to stronger growth should become visible before year end. Economic uncertainties remain, but the policy responses from governments and central banks should ensure economic recovery becomes entrenched. These actions have lowered perceived systemic risks and, despite recent turbulence, should encourage investors to gradually rebuild equity weightings.

While near term equity risks remains elevated, from a medium term perspective, equities still remain the asset class of choice, and investors should focus on good quality companies with healthy balance sheets and strong cash flows. Exposure to growth markets, irrespective of country, sector, size, or with a cyclical/defensive label, continue to be recommended. Yield will also remain important in a low interest rate world and higher yielding stocks with growing dividends should form a core focus for most portfolios.

Elsewhere, relatively weak economic data and financial repression had kept bond yields at extraordinarily low levels that bore little relation to fundamentals. Recent US Federal Reserve comments, indicating an earlier than expected end to asset purchases, rocked financial markets and raised government yields by nearly 100bp. In the short-term, the move is exaggerated, but the 30-year bull market in bonds is likely over, and the longer term trend is for gradually rising yields.

Hiding in safer short duration government bonds is currently the most popular strategy for many bond investors as current turbulent times, involving a probable change in Fed policy, favours liquid assets near term versus the illiquidity of corporate bonds. Credit still offers better inherent fundamental value, however, given expected default rates and pick-up in yield.

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