Asset managers see a return to bonds next year

New year investment advice is typically equivocal as so much can go awry over a 12-month period, but there’s rarely been a consensus as clear as a return to bonds for 2023.

By any metric, 2022 has been a torrid time for fixed income. Bonds failed to offset plummeting equities and had one of their worst years in history as central banks ratcheted up interest rates to rein in decades-high inflation amid an energy shock.

By some distance, it’s been the most brutal year ever for aggregate bond indices and exchange-traded funds – many of which have only been around for a couple of decades or less. But one have to go back centuries in some cases to get anything nearly as bad as 2022 for “safer” sovereign bonds.

While short-dated US Treasury losses were limited to less than 10%, the 23% drop in annual returns of the 10-year US Treasuries through last month was – according to Bank of America – the worst since the turbulent infancy of the republic in 1788.

What’s more, it looks set to be the first backto-back year for Treasury losses since 1959. Surely there won’t be a third?

Not according to asset managers now setting out their stalls for 2023 – many of whom have already spied 10 and 30-year Treasury yields over 4% last month as a good place to lock in.

If their dominant year-ahead themes of disinflation, recession, peaking central bank rates and a cresting dollar play out, a return to bonds and revenge for the 60/40 portfolio model – which also had its worst year in a century – is at hand.

“Next year will be the year of the bond,” claimed Chris Iggo, chair of the AXA IM Investment Institute.

“Bonds are back,” reckons Amundi chief investment officer Vincent Mortier.

Societe Generale’s (Socgen) global asset allocation team, which already upped the share of bonds in multi-asset portfolios as early as September, said another upgrade was warranted going into next year and added higher quality credit and investment grade bonds.

“Road to recession – bullish bonds and quality credit,” was how Socgen entitled its view.

Positioning-wise, the increasingly bullish asset management consensus seems at odds with high-octane money that remains negative on fixed income for the most part.

Speculative hedge funds are still heavily net short of two and 10-year Treasury futures, according to the latest data from the US Commodity Futures Trading Commission, with net shorts on the two-year now the biggest on record.

So it’s far from a crowded trade yet. Global investors polled by Bofa earlier this month still reported being some 20% underweight in bonds on aggregate.

But with recession and falling inflation now a majority expectation, the Bofa survey showed funds close to a tipping point.

The percentage of those expecting lower long-term yields over the next year exceeded those expecting them to rise for the first time in the survey’s history.

And while economic downturn and disinflation are good for bonds now with the highest yields in decades, they are much less so for equities now wary of outsized earnings hits leaving the 2023 outlook for stocks far murkier and potentially volatile.