Source: Bloomberg and Saxo Group
High inflation and yield curve steepening: bond sectors that can benefit from it
As we explained, monetary policy is critical to the performance of corporate bonds. Indeed, if central banks continue to tolerate inflationary pressure, it’s safe to assume that corporate spreads will continue to be supported and that corporates that benefit most from the opening of the economy will gain.
If we expect inflation to remain sustained and the yield curve to steepen amid stable monetary policies, the banking and financial sector could provide exciting opportunities. Banks borrow short term to lend money long term. Thus, a steeper yield curve would improve their net interest rate margins. Additionally, banks will continue to benefit from the reflationary environment as the economy reopens and demand for loans and investments increases. Financial brokers and insurers will also benefit as a healthy economy increases investment activity.
Cyclical industries can also perform well in such an environment, and it's important to pick those that can easily pass the rise in costs to their customers. So far, basic materials and commodities producers have been able to do so amid soaring commodity prices. In contrast, non-cyclical industries such as food and beverages and the retail sector have been less able to pass costs to their customers.
Things are different if central banks have to adopt more aggressive monetary policies to curb inflation. The key within this scenario is to stay defensive, and keep the duration to a minimum and quality high. Amid a fast tightening of financial conditions, defensive industries such as consumer staples and utilities would be supported. However, duration picking remains vital. For example, utility bonds by nature have very long maturities and are more vulnerable to a steepening of a yield curve.