By Angus Foote | 13:16:12 | 10 May 2010
The €750 billion package designed to bring stability to the eurozone will only work if it is followed quickly by credible measures to cut budget deficits, says OMAM global bond manager Stewart Cowley.
‘The deal that has been done is highly technical. It’s not something that voters will easily understand. In Europe, it’s direct transfer of the creditworthiness of [the problem countries] to the European Union,’ he said. ‘It’s technically correct but it’s political suicide – as Angela Merkel is discovering.’
‘Surely, the end point of all this has to be a reduction the cost of capital. If it doesn’t achieve that, any rise in yield just a prelude to them collapsing again.’
‘The package tackles the symptom, not the disease. What is needed is large scale deficit reduction, which is going to be very, very painful.To me, if the deal doesn’t get down the cost of capital it’s a failure. Don’t mistake an event for a process,’ he warned.
Cowley, manager of the Old Mutual Global Strategic Bond and Dynamic Bond funds as well as the more recently launched Global Bond Fund, is ranked top in the Bond Global sector over three years with a total return figure of 39.63%. He believes that if politicians don’t tackle deficits of their own accord, they will be forced to – and quickly.
‘The clock is ticking…if the political class don’t do something about this, it will be imposed upon them by the markets,’ he said.
Cowley’s major theme at present is what he calls ‘discriminating capital’, as global investors increasingly back only those countries that can inspire confidence. ‘We’re probably right at the beginning of it,’ he says. ‘It’s started in Europe, but it will get to the US eventually.’
For all the countries under scrutiny – including the UK – credible deficit reduction plans need to be outlined in the next few weeks rather than months. ‘The markets aren’t going to tolerate dithering.’
In his global bond portfolio Cowley has about 30% in yen and commodity currencies. As global rebalancing continues, he says, ‘the winners have got to be the far east and the commodity currencies. The yen could be a winner.’
‘The ECB is not going to be able to move interest rates very soon – it’s going to be years.’ So Cowley is also playing a long duration strategy.
From corporates, he expects a lot of issuance with a five to seven-year duration, in the B to BBB category, paying 400 to 600 basis points over government debt. ‘That’s going to look good against cash and so long as you’ve got surviving companies you’re on to a winner.’
Cowley points out that even before the onset of the current crisis, many governments only had a brief window of a few years in which to tackle debt reduction, before demographic trends caused further unfunded liabilities to kick in.
For investors, one consequence of the current situation is a rise in demand for absolute return strategies. His own funds use Ucits III powers and he believes this will increasingly be a vital part of his armoury.
‘People are using these funds to balance out portfolios. Today it’s about risk management.’
‘The techniques we use in hedge funds are now showing up everywhere in mainstream fund management. Some of the older funds are looking like dinosaurs – they tend to be strapped to an index for historical reasons.’
This limits the ability of the manager to respond to changes in the market. ‘So they move up and down the league tables, while the absolute return funds have lower volatility – which is very useful in volatile markets like these.’