Views From The Experts

 

Erin Bigley
Senior Portfolio
Manager—Fixed Income:
AB Global Bond Fund

 

 

 

 

Hedged Global Bonds Protect and Provide

 

In today’s environment of heightened market volatility, it’s important to maintain interest-rate exposure. But we like to take that exposure through the global bond market, not just the US bond market.


Both markets provide a nice offset to US stocks. In normal environments, both have very low correlation to US stocks. But the real power in global bonds comes during extreme downside environments for stocks. When stocks are off more than one standard deviation, hedged global bonds tend to provide an even more negative correlation to stocks than US bonds alone.


Yet global bonds provide more than protection against stock market volatility. They also provide a defense against rising US rates. Over the past quarter century, when US bonds rallied, hedged global bonds rallied nearly as much, capturing 96% of positive quarterly returns. And when US bonds sold off—when US rates rose—hedged global bonds preserved more capital, experiencing only 65% of that downturn.


But why invest globally when about a third of the global government bond market is trading with negative yields? Because those negative yields can be turned into an opportunity for US investors, thanks to currency hedging.


Hedging foreign currency back to US dollars accomplishes two things. First, it removes a lot of volatility. When you hedge volatile foreign currency exposure back to dollars, you lower the volatility of the portfolio. Second, in today’s markets, the currency hedge can provide a benefit by increasing the yield. In the euro area, for example, it increases yield by almost 1.5%. It can take German bunds trading with negative yields up to yields approaching those of US 10-year Treasuries. Even better, it takes a Portuguese 10-year bond trading at 3.0% towards levels like 4.5%.


The key is actively managing these exposures, because hedging relationships change. An actively managed global bond portfolio optimizes the dynamic relationships that comprise the capital markets.

 


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