European bond market investors need to be following political developments closer than ever, now that markets are expecting Greece and Portugal to restructure their debts.
Anderson is also aware this creates a particular challenge for those with higher return targets. For those investors, he recommends buying shorter-dated instruments (averaging one to two years) of high yield or corporate bonds and holding them to maturity, focusing on only better quality issuers.
He views this transfer to shorter dated debt as more productive than a simple shift from fixed to floating rate notes.
Nevertheless, he does see plenty of slack for floating rate issuance to grow, despite issuer hesitancy, because there are low yields further out the curve and a high expectation of rate rises. One of the newer risks in the European market is the possibility of senior debt holders receiving haircuts on their holdings.
This possibility became all the more tangible with rescue packages that make bonds issued as part of those rescues rank higher than existing classes of senior unsecured debt.
Anderson says: “The chance of senior haircuts does highlight the degree of potential volatility and the returns from subordinated debt in its various forms. One question being asked, with the re-emergence of the covered bond market, is whether covered bonds are the new senior debt.
“There is an argument for over-collateralised exposures, such as covered bonds, to be part of an investor’s portfolio. That may take some allocation away from what senior debt was before.
“Senior debt is becoming in financials a more risky asset that will likely price accordingly, potentially giving covered bonds a larger role in the investor universe,” he says.
Anderson also emphasises the important role subordinated debt plays within corporate debt portfolios.
He points to the volatility of those portfolios during the financial crisis, much of which stemmed from the underperformance of the subordinated constituents of corporate benchmarks.
Thus, with the emergence of asset classes such as contingent convertible securities, understanding how regulators regard subordinated debt is a key issue.
As for the decision to subordinate senior unsecured debt to bailout debt, Anderson is clear on the consequences.
“It creates the potential for a two-tier bond market. To that extent, it creates subordination, not necessarily in black and white but in terms of market perception. Ultimately, that is all one needs,” he says.