Amid the highest inflation numbers seen since another Trudeau was Prime Minister, central banks the world over adopted a decidedly hawkish stance by repeatedly hiking interest rates in the last several months. Bond yields rose and prices fell as usual during a credit tightening cycle.
Canadian Consumer Price Index vs. iShares Core Canadian Universe Bond
Data as of September 30, 2022. Source: StatCan and NBI
A possible reprieve
Capital markets anticipate events and current interest rate levels indicate that investors expect them to reach a plateau in the first half of 2023. Forecasters do not agree, though, on how long rates will need to remain elevated in order for inflation to be tamed and brought back down to the 2% target range which constitutes the objective stated by most central bankers.
Three potential scenarios
- If interest rates stabilize, bond investors could capture attractive yields until maturity.
- If a recession materializes and they fall, the potential for capital gains would offer an even more compelling investment narrative.
- If unforeseen circumstances result in further rate hikes, the high coupons would in large measure compensate the decline in prices.
An opportunity to seize?
A substantial portion of assets have migrated to cash and its equivalents in a flight to safety during the period. Investors have benefited from the increased yields on short-term instruments and even resorted to buying good old GICs now that they provide decent returns.
However, the time may have come to rebalance their portfolio and allocate once again to longer duration fixed income securities the amounts withdrawn earlier in the year. Among available solutions, high-yield bond funds present an opportunity with the most upside potential. The risk involved is greater, but the reward may prove more bountiful than those who choose to stay on the sidelines can imagine.
Percentage bond yields to maturity
Year-to-date as of October 31, 2022. Source: NBI
Here are some NBI bond funds that may interest investors ready to jump into the fray.