Welcome to Soundbites, weekly insights on market trends and investment strategies brought to you by Investment Executive and powered by Canada Life.

For today’s Soundbites, we consider when current interest rates will translate to better yields for bonds. We asked Konstantin Boehmer, senior vice-president for investment management at Mackenzie Investments, whether we have reached peak inflation, what bond investors should be watching for, and what bonds he’s recommending these days.

We started by asking what the biggest challenge is for fixed-income investors.

Konstantin Boehmer (KB): Well, I think the biggest one is which direction are we going? Is fixed income going to be a buy? Or is fixed income going to be a sell? The first half of the year was all about inflation, and fixed income hates inflation. But peak inflation is probably behind us. Central banks, especially in Canada and the U.S., have been quite aggressive increasing the cost of money and that risks a slow down at the minimum but a recession as a quite probable outcome. And recessions usually are pretty good for core fixed-income investments. And that is what we are starting to see right now.

What should bond investors be watching for?

KB: I think it really is that recessionary trends that are taking place here. Canada has one of the highest household-debt ratios globally. So, we’ve borrowed a lot of money, and if the cost of money is going higher, that has a direct impact on the spending power. And, in fact, we’re all accustomed to having now hundreds of thousands, if not millions, of dollars in mortgages, which we were all good and fine to service because interest rates were so low. But all of a sudden, this housing market and huge debt load that we collectively have as an economy, that is a really tough hurdle to cross. So, I would say, yeah, keep an eye on those front-end yields. If that keeps on going up, I think fixed income will have a pretty good second-half of the year.

What kind of bonds does the current economic environment favour?

KB: I would say it is good in general for high-quality bonds. So, Government of Canada or provincial bonds, investment grade corporate credit. Those securities would generally perform well. But when it comes to higher-yielding securities, that will be a double-edged sword. There’s a bifurcation. So, it is not good for everyone. It will be really good for some, and probably bad for some others. Some will suffer probably from the deteriorating economic environment quite a bit. And others will win on the other side from that duration component. But for your standard benchmarks, that would probably be a positive environment. Longer-dated maturities actually start to look quite interesting.

How Canada government bonds are faring against other developed economies.

KB: Actually, Canadian fixed income on a comparative scale of which bond market looks most attractive, is pretty, pretty high up there. Maybe it even has the top spot. As in, the most attractive fixed-income place globally. The duration shorts that we have in our global portfolios are actually in Europe and in Japan. And the areas where we have a long duration are in Canada and in the U.S.

And finally, what’s the bottom line on the current environment for fixed-income investing?

KB: Yeah, I think the most important is, don’t look at past performance to guide your decisions going forward. Let’s look at what the outlook will be for the future and what kind of valuations you can access at this point in time. When I look at fixed income — and that could be the broad-based benchmark or benchmark plus high yield or emerging markets — those products, they’re offering now are a pretty good yield. Four-and-a-half, five, five-and-a-half percent. And with the risk of some kind of recession, I think those yield levels look quite attractive. And a lot has been priced in by the Bank of Canada. So, I think, Canadian-fixed income looks like a pretty strong buy from my side. If we look at fundamentals, valuation, macroeconomic outlook, and maybe also that negative correlation with equities, I think higher-quality Canadian fixed income looks like a pretty good buy to me.

Well, those are today’s Soundbites, brought you by Investment Executive and powered by Canada Life. Our thanks again to Konstantin Boehmer of Mackenzie Investments.

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