Time to get defensive on interest rate risk? M&G (Lux) Short Dated Corporate Bond Fund


The value and income from the fund’s assets will go down as well as up. This will cause the value of your investment to fall as well as rise and you may get back less than you originally invested. There is no guarantee that the fund will achieve its objective and you may get back less than you originally invested.

Protecting against interest rates volatility

At the start of the year, the consensus seemed to be that inflation was under control and that central banks would begin cutting interest rates. While inflationary pressures are thankfully easing, economic growth has shown resilience, particularly within the bellwether US economy. As a result, we have seen market expectations gyrate, with some investors pushing back their expectations of interest rate cuts to 2025.

While we believe the direction of travel is for central banks to begin to cut rates this year (it’s true that the ECB did so in June for the first time since 2019, but crucially, the US Federal Reserve has hinted at just a single cut in 2024), we would like to highlight the contemporary relevance of a lower duration strategy in corporate bond portfolios, and to argue that there is a place for strategies with lower interest rate risk exposure in a fixed income portfolio.

Considering a lower duration position – the M&G (Lux) Short Dated Corporate Bond Fund holds around 1.7 years of exposure to changes in interest rates – could protect against and minimise the risks of interest rates volatility over the coming months, in our opinion. Such a strategy could also provide a hedge against the long duration trade, should inflation become stickier than we all fear and consequently interest rates take even longer than expected to come down.

While past performance is never a guide to future performance, looking at a short-dated credit index versus a longer-dated credit index over the past few years may offer a useful illustration of the lower volatility profile that we would expect to accompany a shorter-duration portfolio.

Figure 1, overleaf, is a simple representation of the index values of European investment grade corporate bonds compared to the values of similar, good quality bonds but with a shorter duration exposure (in this case 1-3 years; the dark teal line appears smoother). We suggest this chart shows that since the advent of high rates uncertainty (in 2021 and still ongoing), which has been a big problem for bond investors, there has been less drawdown volatility in the case of low duration bonds. This was matched by a better total return profile.

Past performance is not a guide to future performance

Figure 1: The power of (low) duration – European IG index vs the short-dated European IG index



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