Morningstar analysis shows fixed income funds under the cosh with thin liquidity

Dan Barnes

According to a new report from market data specialist, Morningstar, the unprecedented interest-rate hikes across developed markets has left most bond categories deep in the red for the second quarter of the year, according to Morningstar’s latest analysis on the performance of fixed-income funds in the first half of 2022.
Mara Dobrescu, Morningstar’s director of manager research, remarked, “Longer-duration funds underperformed their peers, on average, in every Morningstar Category, while short-duration or floating-rate funds posted lower losses.”

The report found that green bond funds disappointed in their performance over the first half of the year, due to their structurally longer duration and larger credit bias than conventional bond funds.
Although inflation-protected securities have tended to outperform nominal government bonds in the United States and the eurozone, in the United Kingdom, where the majority of inflation-linked gilts have very long maturities, inflation-linked bond funds severely underperformed plain-vanilla government bond funds as the duration hit outweighed the inflation protection effect.

Emerging-markets bonds sold off sharply and funds with overweighting’s in Russian government, state-owned, and corporate entities felt the brunt of the pain. But as geopolitical instability and supply bottlenecks persist, several frontier markets have also been teetering on the brink of distress, leading to a rocky performance profile for some.

“Gold-rated Neuberger Berman Emerging Market Debt – Hard Currency Fund USD I C, for example, got stung by its Sri Lanka exposure (2.4% of assets in April 2022 compared with 0.8% in the JPM EMBI Global Diversified Index, prior to the default),” the repot noted. “Fidelity Emerging Mkt Debt (rated Silver on its clean share class) also ranked in the Morningstar category’s lowest decile this year to date through June 2022. Like many others, this fund’s managers also picked up exposure to a handful of China real estate names at bargain prices at the end of 2021. Those exposures initially recovered somewhat from their 2021 lows but have recently struggled again as investor sentiment turned sour.”

Other funds such as PIMCO GIS Emerging Local Bond Fund Instl USD Acc and its hard-currency sibling PIMCO GIS Emerging Markets Bond Fund Instl USD Acc, which carry a combination of Bronze and Neutral ratings were found to be staying the course, with middle-of-the-pack performance this year to date, according to Morningstar.

“Comanager Yacov Arnopolin argues it’s still too early to add risk back to the portfolio given uncertainty over how protracted the Fed hiking cycle will be,” the report said. “He also stresses that thin liquidity limits opportunities for risk-taking, particularly within emerging-markets corporate bonds.”


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