Interest in Sovereign Debt Funds Resurfaces in Europe Amid Flight to Safety

September 26, 2022 — London

Managers fine-tune their product shelves and await the sector’s return to favor

There is growing optimism among asset managers and investors around Europe that bond yields on government debt will once again start to look relatively attractive, according to the latest issue of The Cerulli Edge―European Monthly Product Trends.

Bond funds have been out of favor in Europe for several years and continue to suffer in 2022, given that inflation remains a key variable for markets and central banks are increasing interest rates. Speculation as to how high central banks will raise rates to control inflation is affecting appetite for fixed-income exposure.

“The market environment in recent years—positively rewarding equities and higher-risk strategies and punitive to fixed income—has put investors off fixed income. However, sovereign bond funds could regain some space in portfolios as a diversifier of returns and a means of income generation in the short-to-medium term,” says Fabrizio Zumbo, director of research at Cerulli Associates.

High-risk strategies are starting to be replaced with safer investment options, including government debt issued by the U.S. and European governments. The market grew at a CAGR of 16.8% during the three-year period to 20211 but below-par investment performance has constrained further asset growth in the sector. For example, the FTSE World Government Bond Index, which measures the performance of fixed-rate, local currency, investment-grade debt from more than 20 countries, was down 10.2% as of August 31, 2022, on a GBP hedged basis.

Nevertheless, product providers operating across the European fund marketplace have continued to develop their suites in order to attract local investors, with some managers looking to address the gap in sustainable fixed-income products, e.g., with new climate government bond funds and actively managed SFDR Article 8 government bond strategies.

Although the appetite for emerging market sovereign fixed-income products cooled during the first eight months of 2022 in response to the perception of higher risk when compared to developed market-issued sovereign debt, China’s bond market is now the world’s second largest and is expected to see increased foreign ownership as representation in global bond indices improves.

“We could see sovereign debt products return to favor in the longer term, given current market dynamics and the conservative investment culture in parts of Europe. Managers that persist with fine-tuning products despite continued economic uncertainty may well find compelling opportunities in the fixed-income space,” concludes Zumbo.


1 Source: Morningstar

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Note to editors

These findings and more are from The Cerulli Edge―European Monthly Product Trends, September 2022 Issue.

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