Global Bond Funds: Diversify And Grow Your Investments

Global bond funds have become increasingly popular among investors, and for good reason. Global bonds are international bonds offered simultaneously in various capital markets, including Europe, Asia, and America. These bonds can have a fixed or floating rate and maturities ranging from one to 30 years. Investing in global bond funds provides access to a much bigger opportunity set, allowing investors to capture much-needed diversification and potentially higher returns. By investing in both US and non-US bonds and currencies, investors can reduce their exposure to specific markets and currencies, spreading their risk. Additionally, global bonds can provide a hedge against the volatility of US stocks, making them an attractive option for investors seeking to balance their portfolios.

Diversification and attractive yields

Global bond funds have become increasingly popular among investors. These funds typically invest in the debt securities of developed nations, but funds with holdings from emerging markets have also gained traction.

Global bonds are international bonds offered simultaneously in various capital markets, including Europe, Asia, and America. They are issued and traded outside the country where the currency of the bond is denominated. For example, a US corporation can sell a bond on a Japanese marketplace denominated in yen.

Diversification

Global bonds provide investors with much-needed diversification. The global bond market is much more diverse than the US bond market, offering significant variety and diversification sources. Bond returns differ across countries and years due to varying economic cycles, monetary cycles, business cycles, inflation regimes, geopolitical concerns, and yield curves.

For instance, high-yield corporate bonds may be a weak investment opportunity in one region but a major opportunity in another. As central banks conclude their hiking cycles, investors can take advantage of diverging regimes and differentiate their investments to add new sources of alpha.

Attractive Yields

Hedged global bonds have historically generated higher returns with less volatility than the US bond market. Over 30 years ending August 31, 2023, the Bloomberg Global Aggregate Index (hedged into US dollars) posted an average annualised return of 4.8%, compared to 4.6% for the Bloomberg US Aggregate Index.

Additionally, currency hedging can boost low yields. Depending on the differences between countries' short-term interest rates, currency hedging can increase a bond's yield. For example, at the end of August, currency hedging into US dollars increased the Japanese Government Bond yield from 0.7% to 6.4%.

Global bond funds provide investors with steady income streams and exposure to multiple economies, making them an attractive investment opportunity.

More opportunities to add alpha

Global bond funds have become increasingly popular among investors. These funds typically invest 40% or more of their assets in fixed-income instruments outside of the US, including both US and non-US dollar-denominated bonds. Some funds take a conservative approach, investing in high-quality bonds from developed markets, while others adopt a more adventurous strategy, investing in lower-quality bonds from emerging markets.

The global bond market offers a much bigger opportunity set compared to the US fixed-income market, which previously dominated the world's supply of bonds. Today, the US represents less than a third of the global bond universe, and the global market is much more diverse. This diversity provides investors with more opportunities to add alpha through active management.

Bond returns differ across countries and years due to varying economic, monetary, business, and inflation cycles, as well as geopolitical concerns and yield curves. For example, high-yield corporate bonds may present weak opportunities in one region but major opportunities in another. Diverging regimes create chances for investors to differentiate and add new alpha sources. As central banks conclude their hiking cycles, the lagged impact of tightening is felt at different speeds in different economies.

Additionally, the global bond market offers differing sector returns across countries and regions. For instance, while the market has been pessimistic about UK government bonds due to lagging inflation, we believe that the market will need to adjust its expectations, creating opportunities for investors. On the other hand, despite high hedged yields, we remain cautious about Japan due to the pressure of diverging rates on the yen, which could lead to further adjustments in the country's yield curve control.

In summary, the global bond market's diversity and varying economic cycles provide significant opportunities for investors to add alpha by actively managing their investments.

Less volatility than US bonds

Global bond funds have become increasingly popular among investors. These funds typically invest 40% or more of their assets in fixed-income instruments issued outside of the US, including both US and non-US dollar-denominated bonds. Some funds may invest exclusively in non-US bonds, while others maintain a mix of US and non-US bonds.

One of the key advantages of investing in global bond funds is the potential for lower volatility compared to US bonds. Hedged global bonds, in particular, have historically generated higher returns with less volatility than the US bond market. Over a 30-year period ending in August 2023, the Bloomberg Global Aggregate Index (hedged into US dollars) outperformed the Bloomberg US Aggregate Index, with an average annualised return of 4.8% versus 4.6% for the US index, and lower volatility.

During periods of extreme stock market downturns, hedged global bonds have demonstrated greater resilience. When US stocks experienced significant declines, the correlation between US bonds and the S&P 500 fell to -0.06, while the correlation between hedged global bonds and stocks dropped to -0.13, indicating a slightly stronger negative relationship. This suggests that global bonds can provide a better hedge against stock market volatility.

Additionally, global bonds offer investors the opportunity to diversify their portfolios beyond the US market. The global bond market is much more diverse than the US market, providing access to differing economic, monetary, business, and inflation cycles, as well as geopolitical factors that can influence bond returns. This diversification can help investors manage risk and potentially enhance their overall portfolio performance.

In summary, investing in global bond funds can provide access to less volatile investment options compared to US bonds, particularly when considering hedged global bonds. This lower volatility, combined with the diversification benefits of the global bond market, makes global bond funds an attractive choice for investors seeking stable and potentially higher returns while managing risk.

Currency hedging boosts low yields

Currency hedging can be a powerful tool for boosting the yields of low-yielding bonds and reducing overall portfolio risk. By entering a currency forward contract, investors can lock in a specific exchange rate for a future transaction, enabling them to effectively manage the currency exposure of their bond holdings. This strategy is particularly useful for U.S.-based investors who can benefit from hedging lower-yielding global bonds back into U.S. dollars, thereby boosting their yields.

For example, a U.S. investor buying French bonds can enter a 12-month forward contract to sell euros and buy U.S. dollars, hedging the euro currency exposure back to the U.S. dollar. This is known as going "short" on euros and "long" on U.S. dollars. By doing this, the investor can take advantage of the positive interest rate differential between the U.S. and most other developed countries, resulting in a higher yield than what would be achieved without the hedge.

The benefits of currency hedging are not limited to developed market bonds. While hedging the currency of emerging market bonds typically reduces the yield, it can also help mitigate volatility. This is especially valuable for investors seeking to reduce the currency volatility risk associated with higher-yielding emerging market bonds.

Additionally, currency hedging provides a valuable diversification tool for investors with heavy allocations to U.S. Treasuries, which carry a significant amount of U.S. rate risk. By adding exposure to hedged foreign currency bonds, investors can access a larger opportunity set of investments, potentially boosting yields and reducing portfolio risk.

In summary, currency hedging is a well-established technique that allows investors to enhance the yields of low-yielding bonds, mitigate currency volatility, and diversify their portfolios. By actively managing currency exposures and taking advantage of interest rate differentials, investors can improve their overall investment returns and better manage their risk.

Steady income stream

Global bond funds are an attractive option for investors seeking a steady income stream. These funds typically invest in fixed-income instruments, such as corporate and government debt securities, issued by developed nations and, increasingly, emerging market economies. By investing in bonds, investors can benefit from the fixed-rate of interest that companies and governments pay to their investors.

The income stream from global bond funds can provide a stable source of cash flow for investors. Bonds are known for providing fixed-income debt instruments, meaning that investors can expect a consistent return on their investment. This is especially appealing for risk-averse investors who seek capital preservation and steady returns. The fixed-rate nature of bonds makes them a reliable investment option, as investors can anticipate the income they will receive and plan their financial strategies accordingly.

Additionally, global bond funds offer diversification benefits. By investing in international bonds, investors can access a broader range of opportunities beyond their domestic market. This diversification not only reduces the risk associated with relying solely on one country's economic performance but also allows investors to take advantage of varying economic cycles, monetary policies, and interest rates across different countries. The differing landscapes of the global bond market provide significant variety and help mitigate the impact of fluctuations in any single market.

Moreover, global bond funds can offer higher yields than their domestic counterparts. Currency hedging, for instance, can boost the yield of a bond. By hedging foreign currency back into US dollars, investors can benefit from higher returns. As of August 31, 2023, nearly all non-US government bonds provided higher yields than US bonds when hedged into US dollars. This strategy not only lowers the volatility of a global bond portfolio but also enhances the overall returns.

In summary, global bond funds offer a steady income stream through fixed-rate interest payments and provide investors with access to a diverse range of international opportunities. The benefits of diversification, higher yields through currency hedging, and the stability of fixed-income returns make global bond funds an attractive choice for investors seeking consistent returns while minimising risk.

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