ABN AMRO MeesPierson expects bond prices to drop in the coming period due to a combination of economic growth and an expected interest rate hike in the United States. The private bank believes the Fed will raise interest rates by 0.25% in September and December, bringing the expected interest rate to a maximum of 0.75% at year-end. The bank says the resulting drop in prices justifies an underweighting in bonds.
Following the devaluation of the Chinese yuan (from 11 August), there have been growing expectations that the Fed will wait to raise interest rates. A dent in the competitiveness of American businesses would hamper growth of the US economy. Ben Steinebach, Head of Investment Strategy: “We don’t think this will happen so quickly. The total devaluation has so far remained limited compared with the increase in the yuan earlier this year. The effective exchange rate of the dollar has not been greatly influenced. The Fed is also much more concerned with domestic factors, like the labour market.”
ABN AMRO MeesPierson expects the Fed Funds Rate to go up by a cautious 0.25 percentage point in September. Mr Steinebach: “We expect the same hike at each of the six-weekly meetings of the Fed until mid-2016. By the end of 2016, the rate should be 2% to 2.25%.”
Maximum underweighting in bonds
ABN AMRO MeesPierson believes the interest rate hike in the United States will have a limited effect in the eurozone. Nevertheless, an increase in the eurozone as well would be an obvious move, says Mr Steinebach. “We are therefore maintaining our maximum underweighting in bonds and are looking for additional returns in slightly riskier segments. This includes government bonds from European countries like Spain and Italy as well as corporate bonds, both investment grade and high-yield. We believe the latter is a responsible choice, given the favourable economic outlook and, consequently, the low bankruptcy risk.”
ABN AMRO MeesPierson is staying strongly overweight in equities. Mr Steinebach: “Our conviction is strengthened by the positive surprises that are often reported in the second-quarter results. This, plus low interest rates, are keeping market valuations attractive.” ABN AMRO’s private bank prefers European equities over US equities.