This article was written by Vuk Magdelinic, co-founder and CEO of OVERBOND.
Instability in the financial markets was a major theme for 2016. Q2 saw record lows in bond yields after the shock of June’s referendum vote in the UK. Although markets have made a recovery post-Brexit decision, global fixed income market events throughout the past year have set the tone for significant changes in 2017. Here are some trends we expect to see in the upcoming year.
Increased power for buy side portfolios
2017 will see a further liquidity crunch, the slashing of dealer inventories and limited to no market-making in the secondary market. These factors will put the onus on large buy side portfolios to dictate terms on rebalancing events when liquidity is needed. As non-traditional liquidity providers, the buy side will be incrementally more powerful in the fixed income marketplace, and will need to start thinking about how they want to manage dealer and issuer accounts and relationships. The buy side has not traditionally been in that position – so this represents an important operating shift requiring these firms to be enabled with technology, measurable processes, KPIs and tools to operate in this new realm.
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Continued lower yield environment globally
It can be expected that global interest rates will continue to be low, driven by continued easing from the European Central Bank and the Bank of Japan. In addition, growth prospects and lower for longer inflation in the eurozone, Japan, the UK, and to some extent in the USA, indicate an unsupportive backdrop for higher interest rates globally. In 2016, we saw companies like Unilever and Toyota issue at near 0% yields and Henkel and Sanofi issue with negative yields. Further, as reported by Bloomberg, average corporate bond yields in Japan were reported at 0.17%, down from 0.33% a year earlier. It will be interesting to see how portfolio managers manage low corporate yields are affecting returns.
Robust bond issuance
Corporate bond issuance will remain robust, but may contract marginally unless other factors, like M&A, come into play. Government bond issuance is likely to pick up the slack, as many governments will continue to take advantage of the low interest rate environment. For example, Canadians are seeing a Prime Minister who has committed to highly accommodative fiscal policy that includes large infrastructure spending financed primarily through the issuance of debt.
Financial technology growth
2016 saw financial institutions further embracing technology within their operations. Earlier this year, JP Morgan announced a target spend of $9.4 billion annually on technology, with 40% of this to be in their investments and technologies category. With many financial technology solutions being implemented in numerous areas of banking, including lending, payments, and wealth management, we expect fintech to begin increasing its importance in less-explored areas of banking services, including capital markets and regulatory/compliance.