The first nine months of 2022 have been nothing short of horrible for investors who have simply been unable to find a safe hiding place for their assets.
Having seen three consecutive quarters of losses from both equities and bonds, questions have once again been raised about traditional asset allocation. A fact that is highlighted by the 12 per cent to 13 per cent losses seen across the Investment Association Mixed Investment sectors year-to-date.
The suffering in the bond market has been particularly noteworthy. On my whistle-stop tour of the sector, I have had many a manager point to this as the worst bear market for bonds in recorded history.
Investor fears that central banks would once again fall behind the curve in terms of managing inflation saw longer-dated securities sell-off first, only for the hawkish move from policymakers to quickly place pressure on the front end of the yield curve as rate hikes became imminent.
Inflation and interest rate concerns
The Federal Reserve and the Bank of England are now expected to have rates at 4.5 per cent in time for Christmas, while markets in general are pricing in a peak of 5.25 per cent for UK base rates longer term, having been more than 6 per cent following the now infamous "mini" Budget.
You can understand the logic of some raising their cash weightings, despite the impact of inflation. You now have a real yield on a risk-free asset, and the opportunity to invest in a number of asset classes at distressed prices when the opportunity finally appears.
But there are a few other areas of interest for risk-averse investors – in particular, short-duration bonds (two to five years), many of which are starting to offer attractive yields of 6 per cent to 7 per cent.
The question is all tied into interest rates, namely, will they reach the levels markets are predicting to counteract the threat of inflation?
I would like to take a trip back to 2006 as an example. The market was super-optimistic back then, yet rates peaked at 5.25 per cent.
We are currently in the face of a huge cost of living crisis, it is a huge economic concern, so the argument is, how can rates reach those levels in the UK based on these concerns? If the markets come to this conclusion, bonds should go up.
Stephen Snowden, co-manager of the Artemis Target Return Bond fund, says the threat to the mortgage market and consumer spending means rates are unlikely to go past 4 per cent, making short-dated investment-grade bonds an extremely attractive option.
He says yields would have to rise from 6 per cent to 9 per cent in short-dated investment-grade bonds to lose money in the next 12 months – this would be worse than the peak yield of 8 per cent during the global financial crisis, meaning we would need to see greater losses on this occasion.