Trends to watch as fixed-income norms evolve

So many macro and micro threads are pulling on the fixed-income market that it is hard to draw a single conclusion about likely direction. Roundtable participants highlight a raft of areas of focus and factors to watch.

DAVISON Over the course of the conversation today, if there is a conclusion it must be that there are a lot of moving parts and many things could happen. What will market participants be looking for as signs that their expectations are or are not coming to pass?

GIFFORD In the near term – by which I mean over the next couple of months – it feels like we have a really good line of sight. We are confident we have a high degree of flexibility on issuance and all global markets are wide open to us. We are watching closely for opportunities, and whether we want to bring forward issuance from next year to pre-fund is somewhat front of mind for us.

In the longer term, it becomes hazy quite quickly. This means we must have a fairly flexible stance. We probably need to stay on run rate at a minimum, and maybe slightly ahead – but perhaps not as far ahead as we have been.

As I touched on, we are watching the resilience of the consumer and for any further signs of issues such as the Moody’s [Investors Service] downgrade or negative watch on several US regional banks. We also keep in mind commercial real estate and any impact on credit spreads in that sector.

CUNNINGHAM Luckily, we have a whole asset allocation team whose day job is to think about all of this so I will answer on the areas within my responsibility: cash management and liquidity.

Our sole purpose is to make sure this part of the book is very, very liquid. We remember what happened in COVID-19 with lack of liquidity. It was quite challenging even for Australian FRNs [floating-rate notes]. We are taking advantage of great rates in term deposits and in NCDs [negotiable certificates of deposit]. We might consider very short duration, high-quality bank FRNs, too.

The other side is credit. We haven’t spent a lot of time talking about this today, but one thing I have observed is a bit of overexuberance from a number of credit investors here in Australia. It is affecting the quality of covenants and security packages.

These are sorts of things we are keeping an eye on, because we seem to be going the opposite way to what is happening in in the US. Private credit market participants in the US are saying this is a great time to have good, strong covenants and pricing. We seem to be going in the opposite direction.

SCHILLER A few things are telling us there is more upheaval coming in 2024, mostly focused on the US. First, annual growth in federal government receipts has moved into negative territory, which has been a very good leading indicator of past recessions.

Second, US M2 money supply continues to shrink at a record pace – reflecting the tightness of financial conditions.

Third, commercial real estate will progressively need to be refinanced over the next year as US CMBS [commercial mortgage-backed securities] maturities arise. Small-to-medium sized banks in the US currently account for approximately half the loans to commercial real estate. A credit crunch could occur as liquidity decreases and lending standards tighten in the US.

Meanwhile, consumer credit is also at a record high, increasing to more than US$1.2 trillion, while savings rates are low – they are back in the 2-4 per cent range. Finally, event risk in 2024 has likely increased, particularly regarding geopolitical conflicts and cyber security.


One thing I have observed is a bit of overexuberance from a number of credit investors here in Australia. It is affecting the quality of covenants and security packages.


KULUPPUARACHCHI To add to the point about the US election, I think the elephant in the room is what role Donald Trump will play next year. Trump’s presence as a Republican candidate or potential president will have ripple effects for geopolitics and markets. Elsewhere, the US consumer is a major factor. One thing markets have been able to rely on since the financial crisis has been the US consumer. It has allowed the largest economy in the world to weather many a storm in this period.

The question now is whether retail sales can remain robust in this higher interest rate environment with savings being depleted at historic pace, per San Francisco Federal Reserve data. The knock-on effects of this sector into corporate earnings is what I’m looking at, but I haven’t seen too much to lead me to any conclusions so far.

There are plenty more. The NASDAQ has had a fantastic run this year, but can it keep going? Have we gone too fast on AI? I am also keeping a close watch on REITs in Australia, especially commercial real estate.

This is an area we have already found to be hard when it comes to liquidity and moving paper. I think this could be exacerbated in any of the downturn scenarios.

There will also be opportunities, though. We want to take advantage of these in order that we can be there for our clients if there is a sell-off. We know we are in a world in which scaling our activity to be available when our clients need the liquidity is vital.

CORBETT My concerns are more local in nature and are focused on liquidity. Our investor base is certainly growing, not just across the superannuation and real-money sector but fast money, too. Fixed income is back, for the reasons we have highlighted, and relative-value opportunities are exploding.

The problem is that we have seen a large exodus of quality traders from the Australian fixed-income market, typically to offshore hedge funds. There is a shortage of quality price makers and depth in the local market, especially relative to the increase in demand we are going to experience into next year.

We have a growing customer base that is more engaged, and wants to do more, but the local homes for risk feel less clear.

BARRINGTON I agree with the earlier comments about liquidity in the Australian fixed-income market. I’m also focused on China. We have spent the last 18 months focused on inflation and central banks, but what is happening in China, and how it will play out, is the new unknown. I suspect we are going to revert to a period where China is a significant focus again, as in previous cycles.

BAILLIE I completely agree. I find it quite surprising how much the narrative has shifted over the years. It is almost as if markets can only focus on one big theme at a time. This has been inflation, and I suppose we are still watching the data there.

However, it surprises me that what has happened in the Chinese property market and with its high-yield default rates was just a little speed bump in Asian credit markets last year. In previous cycles, it would have been a really big deal and most likely would have spilled over into global markets.

The items on my worry list are certainly the outlook for China and the BOJ [Bank of Japan] stepping back from yield curve control. We are still in a world with an inverted yield curve in the US, and it feels as though more accidents typically happen when this is the case – though I’m not sure what they look like yet. With yields and spreads where they are, it still pays to be up in quality and short-duration credit.