Bond markets fell sharply in May and June, pushing yields on US and UK government bonds to their highest points since early 2012. This was driven largely by fears that the US Federal Reserve would begin ‘tapering’ its quantitative easing programme and raising interest rates.
More recently, both the Bank of England and the European Central Bank have sought to allay these concerns by indicating that interest rates will remain low for the foreseeable future. This has prompted some managers to increase their funds’ duration, or sensitivity to interest rates.
Ariel Bezalel, manager of the Jupiter Strategic Bond fund, said he had increased his fund’s duration slightly as he said the sell-off in May and June was “overdone”.
Mr Bezalel said: “At the beginning of the year we took duration down to 2.5 to three years. This meant we were fairly well placed for the sell-off in government bonds. I’ve lengthened duration slightly, as the sell-off was overdone. The market is pricing in rate rises next year, which we feel is not going to be the case.”
Artemis Strategic Bond fund manager James Foster had also increased his fund’s duration and reinvested much of the cash he had built up in his fund.
“When US treasury yields hit 2.55 per cent, we thought the market was overshooting, [so we] bought US treasuries and shifted our duration longer, to nearly four years. That’s a big shift in our overall risk, from being short to longer duration. We expect US government bond yields to rally a bit, and we could see them going closer to 2 per cent again. I have become more bullish after the sell-off, having been very cautious.”
Stewart Cowley, manager of the Old Mutual Global Strategic Bond fund, said he was preparing to use his fund’s duration tools more in the coming months. Mr Cowley said he was able to implement a “negative duration” strategy, which could make money if the market anticipates an interest rate rise.
The manager said: “We will play duration between three and minus three years. When it comes to it, we will use negative duration tools in a much more systematic way.
“We used negative duration at the beginning of this year, but we haven’t used it systematically because the timing is not right.”
“It’s a serious thing to do, and we have to be absolutely right. We were running duration at minus three, but it wasn’t enough to temper the effects [of the sell-off] and we still lost 2 per cent of performance.”
But Legal & General Investments’ Richard Hodges, who runs the group’s £1.8bn Dynamic Bond fund, said he had reduced his duration since the start of July from 2.6 years to 1.8 years, reflecting his view that US treasury yields were likely to rise.
Mr Hodges said he had positioned the Dynamic Bond fund to take advantage of government bonds trading “in a range”, which for US treasuries is characterised by yields of between 2.25 per cent and 2.75 per cent.
The yield on 10-year US government bonds stood at 2.6 per cent on July 10, an increase of almost 50 per cent since the start of 2013.
