The general global trend towards lower interest rates in order to deal with the problems of restricted credit is, naturally enough, having an effect on the bond market, which is, after all, a major reservoir of credit.

Sarah Arkle, chief investment officer at Threadneedle Investments, insists that ‘The backdrop for government bonds remains constructive. We continue to forecast lower interest rates for the US, UK and Europe as economic growth continues to slow, helping to ease current inflationary pressures.’

She adds, ‘At a regional level, we particularly favour the prospects for gilts. That said, we have become more positive on the outlook for credit where current spreads offer an attractive buying opportunity. We continue to believe that the default rates implied by these spreads are unlikely to be realised. Moreover, the Federal Reserve’s handling of the Bear Stearns crisis has led to a positive change in the market’s perception of risk. Elsewhere, the fundamentals for emerging market bonds remain supportive.’

Hitting the bottom
John Pattullo, fund manager of the Henderson Preference & Bond and Strategic Bond Funds, argues the credit markets have finally hit the bottom, citing such factors as the cheapness of bank debt and the stabilising of the loan market.

He suggests that ‘Sentiment looks to be on the way back up. There has been
a rally in synthetic credit indices. The forced sellers – private equity and hedge funds – that were putting such a damper on sentiment appear to have now been flushed out of the system, and new bonds that have recently come to the market are performing reasonably well.’

He also cites the recent takeover of Bear Stearns as evidence of his case.
‘The US Federal Reserve is prepared to cushion the blow of market excess by underwriting the big brokers as well as the big banks, because they are simply
too large to fail.’

Pattullo concludes that ‘We expect that earnings newsflow will continue to deteriorate, we remain short of the heavy cyclical industrial names, and although the Libor rate is still elevated, the Bank of England’s most recent rate cut should ease some of the pressure. The valuations in some bonds have been compelling for some time, but with technicals approaching equilibrium and momentum levelling off, now would be a prudent time for investors to get back into bonds.’

Value returns
John Anderson, fund manager of the Rensburg Corporate Bond Trust, agrees. ‘We believe that value has finally returned to the sterling corporate bond market, but at a cost of greater risk that needs to be managed professionally.’

He adds, ‘There is value now to be found in many sectors, in spite of our belief that an economic downturn is highly likely. In this fund, we shall continue to add to our high-yielding issues but, as always, on a very selective basis. The fund has, for example, been underweight in financial issues and ultra-long-dated bonds throughout
the past six months, while holding government debt as a defensive measure. These are positions that I regard as temporary until confidence and liquidity return to the market. But I have begun buying some bonds at what appear to be “knock down prices”.’