How global bonds offer value for Canadians

How global bonds offer value for Canadians

How global bonds offer value for Canadians

Canada, the US, and other developed economies might be on a rising-rate path, but there are still nearly US$8 trillion in global sovereign bonds with yields below zero. Because of such numbers, many Canadian investors may be cold to the idea adding asset-class and geographic diversification to their portfolios.

But according to a recent commentary from Franklin Templeton, global bond yields may not be as punishing as they seem. “Many investors don’t consider the beneficial impact of additional yield, or ‘carry,’ that can be generated from hedging foreign currency denominated bonds,” wrote Stephen Lingard, senior vice president and portfolio manager for Franklin Templeton Multi-Asset Solutions.

Lingard pointed to Germany and Japan, where stated yields for sovereign bonds are often negative. By hedging out the currency risk to earn a positive carry on Euros or the Japanese Yen, he said Canadian investors can offset the local bond yields to achieve positive net returns.

Citing in-house data as well as figures from Bloomberg, he said Canadian investors have recently seen positive carry of 2.41% and 2.5% with respect to the Japanese Yen and the Euro, respectively. Combine those with the associated bond yields from the corresponding geographies, and Canadian investors stood to see 2.54% net yield from Japanese government bonds and 3.04% from German bunds; by comparison, they would have been able to expect only 2.37% from the equivalent Canadian bonds.

Investors who diversify globally also get better risk-reduction benefits from currency hedging. “Adding foreign bonds to a portfolio (and hedging the currency) allows investors to diversify risks related to economic growth, inflation, monetary or fiscal policy and so on, as opposed to being fully exposed to domestic risks,” Lingard said.

Referring to data from a BCA study released in March, he showed that Canadians invested in a domestic treasury index saw effectively the same returns as those invested in a hedged foreign treasury index. But those with hedged exposure across multiple foreign bond markets saw lower volatility risk and higher risk-adjusted returns than those with exclusively domestic treasury investments.

“Given our view that global growth will remain above trend and inflation will move higher, our portfolios remain underweight bonds overall,” Lindgard said. “However, while the return outlook for most government bond markets is unattractive in the medium term, these markets are essential portfolio diversifiers.”

 

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