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The hunt for yield continues despite mixed sentiments

The preference for Sukuk and bonds in the current climate has waned but pockets of opportunities still exist.

The hunt for yield continues despite mixed sentiments

In a period of uncertainty and high volatility across all asset classes, investors have had to diversify to ensure a steady stream of income and a balanced portfolio. There has been a noticeable preference amongst investment managers for bonds, particularly in emerging markets.

Although yields are now currently low, over the last few months investors have found comfort in the low-risk nature and steady income stream of bonds. However, analysts have suggested that bonds are no longer an effective diversifier of equity risk.

The relationship between the two assets is said to have broken down, according to Credit Suisse, as record low rate volatility evidenced by the 21-day correlation between the S&P 500 Index and 10-year Treasury yield turned negative on 21 August, after having been at nearly 0.80 in mid-July.

The US bond market is also seen to have entered a politically sensitive period and analysts anticipate more erratic moves ahead of the November elections. With the US economy falling short of a full recovery, Julius Baer said that momentum is lacking to push credit spreads to lower levels.

With no new impulses coming from the Federal Reserve, ‘the US high-yield bond market appears to be in a period of consolidation, following the rapid gains from the March lows,’ said Markus Allenspach, its head of fixed income research.

The Bloomberg Barclays US high-yield corporate bond return index has hovered in a tight range of 2199.8 to 2210.69 points for the last three weeks.

Sukuk market

Similarly, grim sentiments can also be seen for the Sukuk market. After four years of rapid growth, Sukuk issuances is expected to fall 5% this year to about $170bn due to the coronavirus crisis. Moody’s suggests that the decline will be partly limited by the financing needs of GCC countries because of lower oil prices and the pandemic.

However, Thaddeus Best, a lead analyst of Moody’s sovereign risk group in Dubai, expects to see a rally in the second half of the year to around $90bn, led by Gulf sovereigns as governments raise money to finance their responses to the coronavirus crisis.

Despite the decline, 2020 will still see the second highest sukuk issuance total ever, following a 36% increase in 2019. Total issuance in the first six months of 2020 dropped to $77bn, down 12% from the same period last year, as activity in Malaysia and Indonesia was flagged.

While issuance in Southeast Asia saw a 25% drop, Middle East volumes rose by 7%. Moody’s also expects some African sovereigns and corporates to enter the market, following the lead of Egypt and Nigeria earlier this year.

Social bonds

Something to be excited about this year is the demand for social bonds. With issuances more than quadrupling this year, S&P expects social bonds to emerge as the fastest-growing segment of the sustainable debt market in 2020.

The recent growth in social bond issuances indicate that the pandemic has not turned issuers’ or investors’ attention away from sustainable finance - on the contrary, interest seems to be growing.

Social bonds finance projects with primarily social objectives, such as improving food security, access to education and health care, have emerged as an unlikely tool in the economic fight against the virus to address the demands of consumers and communities that are increasingly aware of current social issues.

S&P further expects corporations and financial institutions to become more active in the social bond market as the pandemic accelerates private issuers’ interest in social considerations.

Nevertheless, the hunt for yield continues. While credit spreads have tightened, global investment firms such as UBS are seeing value in US investment grade bonds, USD-denominated emerging market sovereign bonds, European crossover bonds, green bonds, and Asia high yield bonds. Against a backdrop of ultra-low yields, there is still value in select credit as a means of income generation.

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