Global and Australian Fixed Interest

Global Fixed Interest
For investors, the growth of the international bond market brings a wealth of new alternatives for diversification. A bond portfolio that includes a global allocation may offer investors the benefits of diversification, wealth preservation and attractive returns.

Broader Opportunity Set
As the structure and depth of the international bond markets continue to evolve, new and diverse opportunities are available to institutions and individuals who choose to invest a portion of their portfolio globally. Global fixed income securities are issued by a variety of sovereign governments and agencies, corporations and financial institutions, municipalities and local authorities throughout the world, in sectors as varied as government bonds, corporate bonds, municipal bonds, mortgage-backed securities, structured products and a growing variety of exchange- traded and over-the-counter derivatives. Global bond opportunities can be found in high grade and high yield bonds, developed and emerging markets and local and foreign currencies. Issuance has grown in inflation-indexed, corporate and securitised products, and financial innovation and deregulation have facilitated the development of derivatives markets across the world.

According to the Bank of International Settlements, the size of the world bond market is approximately US$100 trillion. Almost all investors can find significant opportunities outside their home countries.

So why go global?
Reducing risk through diversification – One of the traditional arguments in favour of investing in international fixed interest is that a global bond portfolio can actually be less volatile than one invested solely in domestic bonds. The reason is that interest rates in global bond markets behave differently due to variations in policy, sentiment, and economic activity across countries and regions.

Broadening the yield field – Tactical investing, including the ability to rotate among bond sectors and among regions, is one way that active managers can add value for investors; with a global opportunity set, active managers can identify attractive yield and/or return opportunities, while also striving to cushion against market volatility and risks to capital.

Currency impacts -  When a Fund invests in other countries, changes in the value of currencies relative to the Australian dollar will impact Australian dollar returns.

Australian Fixed Interest

Australian fixed interest offers investors an attractive asset class. A number of structural benefits have enabled Australia to maintain a strong bond market, including:

• a low debt economy
• the highest credit quality by all three major ratings agencies
• fiscal and monetary policy flexibility
• resilient banking system supervised by Australian Prudential Regulation Authority (APRA)
• Liquid derivatives market in interest rate swaps, cross-currency swaps, and swaptions.

Commonwealth Government Bonds
Among the highest quality investments in the world, Australian Commonwealth government bonds carry the highest independent credit ratings, which is important for investors seeking capital certainty and a regular income.

Australian Commonwealth government bonds are issued in three forms:

Treasury fixed coupon bonds – Accounting for the majority of Commonwealth Government Securities (CGS) outstanding, they are sold over the counter and provide a fixed rate coupon.

Treasury indexed bonds – Treasury indexed bonds guarantee holders a real (inflation-adjusted) rate of return. The coupon and capital for these securities are linked to the Consumer Price Index.

Treasury notes – Treasury notes are short-term securities issued by the government to cover short-term funding needs. The funding requirement (less than one year) arises because the timing of the Commonwealth’s revenue does not exactly match the expenditure profile.

State Government Bonds
These bonds are issued by Australia’s state and territory governments. The dominant issuers are New South Wales, Victoria and Queensland. In each state and territory, a central borrowing authority borrows on behalf of relevant government public sector authorities and entities. Centralising the funding needs of these borrowers provides a more efficient source of funding than if each entity individually sourced funds.

While states and territories use a range of funding instruments, fixed coupon bonds tend to be the primary security issued.

Australian Corporate Bonds
When Australian companies want to fund their businesses, they often turn to the corporate bond market. After doing appropriate due diligence on current market appetite and prices, a company seeking to borrow money determines how much it would like to borrow and then issues a bond in that amount. Dominated by bank borrowers, Australian corporate bonds are fixed and floating rate and have typically three-to-five year tenors. The strength of a borrower’s ‘brand’ name can affect investor demand.

Kangaroo Bonds
Issued in the Australian market by non-Australian firms, kangaroo bonds are denominated in Australian currency and subject to Australian laws and regulations. They are mainly used to provide issuers with access to a capital market outside of their own. Also, major corporations and/or investment firms looking to diversify their holdings and improve their overall currency exposures can use kangaroo bonds to raise funds in Australian dollars.