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2020 Global Outlook: Testing limits

Rethinking resilience

Yields are testing lower limits in many developed markets, making many government bonds less effective as portfolio ballast in case of equity market selloffs. This forces a rethink of their role in strategic allocations. A focus on sustainability can help make portfolios more resilient. A commonly held view is that sustainable investing requires giving up potential returns – but we believe a huge capital reallocation into sustainable assets could help them outperform in the long transition to a low-carbon economy.

Implication: We prefer U.S. Treasuries to lower-yielding peers as portfolio ballast and see a strong case for integrating sustainability into investment processes.

Underappreciated inflation risks
U.S. wage drivers, 2008-2019

U.S. wage drivers, 2008-2019
  • Source

    Sources: BlackRock Investment Institute and U.S. Bureau of Labor Statistics, with data from Refinitiv Datastream, January 2020. Notes: This chart shows the annual change in the Employee Cost Index and the annual change of various implied components relative to their respective means from 1996-2019. The decomposition is similar to that done by former Fed Chair Janet Yellen in a September 2015 speech.

  • The dovish pivot in 2019 pushed bond yields in some developed markets near levels we consider to be their lower bounds. This implies less room for yields to fall during risk asset selloffs. One-third of the developed market government bond and investment grade credit universe had negative yields as of early 2020, according to data from Refinitiv. A weakening or breakdown of the negative correlation between stocks and bonds could also undermine the portfolio ballast role of government bonds.
  • Low yields also mean bonds offer little protection against any shocks that send inflation higher. Inflation may surprise to the upside in 2020, particularly in the U.S. Reasons include increases in capacity utilization and tight labor markets. Wages are on the rise, as the chart above shows. Over time, supply shocks could add to price pressures. We see a case for substituting some nominal government bond exposures for U.S. Treasury Inflation-Protected Securities (TIPS) in strategic allocations as a source of resilience against inflation surprises.
  • Geopolitical tensions remain high in the Middle East, and we believe markets are underestimating cyber security risks ahead of the U.S. election. See our geopolitical risk dashboard.

Bottom line: Low government bond yields and underappreciated inflation risks require a rethink of the role of government bonds as portfolio ballast, especially outside the U.S.

Meet the authors
Philipp Hildebrand
Vice Chairman
Philipp Hildebrand, Vice Chairman of BlackRock, is a member of the firm's Global Executive Committee. He is also Chairman of the Financial Markets Advisory (FMA
Jean Boivin
Head of BlackRock Investment Institute
Jean Boivin, PhD, Managing Director, is the Head of the BlackRock Investment Institute (BII). The institute leverages BlackRock’s expertise and produces proprietary ...
Elga Bartsch
Head of Macro Research, BlackRock Investment Institute
Elga Bartsch, PhD, Managing Director, heads up economic and markets research at the Blackrock Investment Institute (BII). BII provides connectivity between BlackRock's ...
Mike Pyle
Chief Investment Strategist, BlackRock Investment Institute
Mike Pyle, CFA, Managing Director, is Global Chief Investment Strategist for BlackRock, leading the Investment Strategy function within the BlackRock Investment Institute ...
Scott Thiel
Chief Fixed Income Strategist, BlackRock Investment Institute
Scott Thiel, Managing Director, is Chief Fixed Income Strategist for BlackRock and a member of the BlackRock Investment Institute (BII). He is responsible for developing ...