Investors around the world face a dilemma of where to turn in today’s environment of low or in some cases even negative bond yields. For example, roughly 75% of the entire Japanese and German sovereign bond market is now trading at negative yields, according to Bloomberg. As a consequence, investors are forced to choose between on the one hand locking in potentially negative returns, or on the other hand allocating capital to riskier assets like equities, where valuations have become less attractive and earnings growth in many industries will likely be challenged by lower nominal global growth. This dilemma, combined with the reality that global monetary policy is losing effectiveness, should give investors reason to consider better risk-adjusted alternatives.
PIMCO believes that right now is the right time for investors currently focused either in the low-risk, low- to negative-yielding assets in the inner circle of PIMCO’s concentric circles of risk/reward (see Figure 1) or in the higher-risk assets of the outer perimeter to consider a move into higher-quality credit as well as select high yield and bank loan sectors: assets more in the intermediate zone of the circle diagram. Today, investment grade corporate bonds, select high yield bonds and select bank loans offer investors the potential to earn near equity-like returns with significantly less historical volatility than equities. Given absolute and relative valuations, credit offers a compelling balance between risk and reward potential – the potential solution to the dilemma. Credit, in our opinion, is in the “sweet spot” intermediate zone between lower-risk (inner circle) sovereign assets, which tend to outperform leading into recession, and higher-risk (outer perimeter) assets such as equities, which tend to outperform during the initial phases of economic expansion and monetary policy stimulus. PIMCO’s belief that the U.S. economy will avoid recession this year bolsters our view that it’s time to move into credit.