Local investing

Easy monetary policy to remain a feature for the foreseeable future

When picking investments for a bond fund, it is important to consider what is going on in the economy, particularly GDP growth, the inflation trajectory and supply and demand. One also has to consider the opportunities on offer, alongside liquidity, credit and duration risk. Watch this 22-minute webinar to find out how Londa Nxumalo considers these different aspects when managing the Allan Gray Bond Fund (the Fund) in the current easy monetary policy environment. You can also read some recent commentary on the Fund below. 

Allan Gray Bond Fund commentary

The big news of the quarter in fixed income markets was the US Federal Reserve (the Fed) announcing that it does not anticipate raising interest rates until at least 2023. The other significant announcement by the Fed was that it would tolerate inflation temporarily higher than its 2% target, using an average inflation-targeting approach instead. This news indicates that the prevailing easy monetary policy will not be shifting anytime soon.

Despite the continuation of easy money from developed country central banks, South African bonds have not received their fair share of the resulting inflows into emerging markets. Although foreign investors have stopped selling South African bonds, their share of the total amount outstanding has dropped below 30% for the first time since March 2012, just before South Africa was included in the World Government Bond Index. The implication of this is that foreign investors have not been fully participating in National Treasury’s ongoing bond auctions.

The performance of South African bonds during the quarter followed a similar theme to that seen in the first half of the year, with the front end of the yield curve outperforming the long end due to negativity about South Africa’s long-term fiscal trajectory. All eyes will be on October’s Medium-Term Budget Policy Statement for clues on how the Finance Minister intends to bring about much-needed fiscal consolidation. However, all has not been doom and gloom for nominal bonds, with inflation remaining well contained. After troughing at around 2% in the middle of the year, inflation has started to tick up, printing at 3.1% in August. Having cut interest rates by 25 basis points (bps) in July, the South African Reserve Bank chose to hold rates in September, indicating that this may be the end of the rate-cutting cycle.

Primary market activity held up well in the domestic credit market. The quarter even saw auction activity for the first time since March, with Thekwini Fund 16, Mercedes Benz and Standard Bank resuming auctions. Bank paper has been well bid, with credit spreads tightening across the curve. Similarly, blue chip corporate names are also in high demand. Notable sectors where credit spreads remain wide are property and state-owned development finance institutions.

The Allan Gray Bond Fund returned 0.62% over the quarter, less than the FTSE/JSE All Bond Index (ALBI) return of 1.45%. This underperformance was due to the Fund’s relatively higher weighting towards the long end of the yield curve, which sold off during the quarter. We have been taking profit on long-dated government bonds purchased earlier in the year and reducing duration. The duration of the Fund is now 5.56 years relative to the ALBI at 6.34 years.

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