(FED) CUT TO THE CHASE

(Fed) Cut to the Chase
Bond ETF flows this year are on track to outpace that of all previous years for yet another record high. As we head into the last quarter after the first Fed cut, 30 months after the first hike, the narrative from our 2024 whitepaper “No Time to Yield” remains just as relevant - the time is still now to “cut to the chase” and step into fixed income.

Where we see the flows – pre & post Fed cut
While bond ETF inflows have remained strong in September, investor sentiment has seen a marked shift since the Fed cut, reflected in the flow picture. Having driven flows for much of the year ahead of rate cuts, flows to long duration US Treasuries (UST) reversed sharply in September (Figure 1), amidst the un-inversion of the yield curve. Post-rate cut also saw investors adding risk to portfolios, with inflows to Emerging Markets Debt (EMD) after net outflows for much of the year, while momentum in High Yield credit picked up significantly (Figure 2).

Where we see opportunities
Investors have continued to allocate to money market funds this year. Yet, bonds have historically outperformed cash during Fed cutting cycles1, and investors extending into duration through fixed income could be rewarded. Curve positioning is key, and the current environment could be favourable for the belly of the curve, which unlike the front end is less dependent on monetary policy, while less susceptible to rapid rate fluctuations in the long end.

At the same time, finding the right mix of yield and duration can be difficult. With more rate cuts incoming, investors can look to risk assets such as Asia High Yield and India Government Bonds where yields are higher, to generate income before the descent in interest rates gathers pace.

No Time to Yield
A case for putting cash to work with bond ETFs
Last year, our whitepaper “The Great Yield Reset” discussed the generational opportunity for investors to rethink their portfolios with a greater focus on fixed income.

In our latest paper “No Time to Yield”, we highlight our updated expectation that global bond ETFs will reach US$6 trillion in AUM by 2030. We discuss the opportunity within bonds and why investors may want to consider moving now to capture decades high yields, get cash off the sidelines, and employ efficient, precise tools such as bond ETFs in this new market regime.

As investors take a more dynamic approach to asset allocation, we believe bond ETFs are among the most powerful tools within the investor tool kit to navigate this market environment.

The timing of potential interest rate cuts may be uneven worldwide, but the message is clear: Don’t wait.

Source: BlackRock, “No Time to Yield”, as of April 2024. There is no guarantee that any forecasts made will come to pass.

Key themes we discuss in this piece:

1. Time to put cash to work and capture higher rates Yields are higher today than they have been in years. If inflation indicators continue to fall, the time of elevated cash rates may be drawing to a close.
2. Investors are choosing bond ETFs in record numbers, but they have room to do more Many investors are still significantly underweight to fixed income, with a 22% average allocation, based on total global industry AUM, far below the “60/40” portfolio allocation often referenced in balanced portfolio discussions.
3. Now is the time to move Even with ongoing volatility in economic data and bond markets, we believe it’s time for investors to move because, historically, the market has tended to price in rate actions before they occur.

Index Your Bonds with Asia Credit

Asia bond markets definitely have a part to play in the next leg of growth in index and ETF adoption. As investors continue to move beyond the “active versus passive” debate, constant product innovation will offer increasingly precise sources of potential returns, and help lead more investors to embrace bond index building blocks alongside high conviction active strategies in pursuit of optimal portfolio outcomes.

In this Asia-focused “Index Your Bonds” paper, we spotlight iShares Asia Credit exposures, provide insights on how they are managed in practice, and discuss how innovations such as ESG integration will make indexing an integral part of investing in Asia fixed income.