Global bond duo pull back duration

Following last month's volatility, the markets seem to be assuming that Japan and Libya are under control and the worst is now over. Paul Thursby and Peter Geikie-Cobb, co-managers of the Thames River Global Bond Fund, do not share this optimism.

Thursby commented: "Although the markets have settled down somewhat, looking forward it seems to us that markets still have to face several ongoing issues, such as the onset of monetary tightening in the UK and Europe and the possibility of instability popping up in Saudi Arabia; there is potential for Iran to flex its muscles more openly as there is much unfinished business in the region, which could lead to more Middle East instability."

At present, headwinds to global growth seem to be gathering strength - energy prices are rising, banks continue to deleverage and workers' real incomes are falling worldwide; elsewhere China is slowing amid questions over how they will manage the shift from investment-led growth to consumption-led growth without mishap.

In addition, with the peripheral European solvency problem remaining unresolved, exacerbated by the growing differences of opinion between the Federal Reserve and ECB on the direction of monetary policy, Thursby and Geikie-Cobb are inclined to be more, not less, concerned over the integrity of the global financial system.

"Higher oil prices have had the biggest recent impact causing a reduction in real yields, most notably in the US as markets are worried about the effect of higher oil prices on real activity. TIPS [Treasury Inflation-Protected Securities, an index-linked US government bond] have outperformed recently on this shift but primarily via a reduction in real rates," Geikie-Cobb added.

In the next phase, Thursby and Geikie-Cobb believe that real rates will fall further or retrace, as a result of which they are subsequently happy to have less risk for now. Accordingly, they have pulled back duration in their Thames River Global Bond Fund, which reached £1bn in AUM last month.

"We are short the markets with least value - in our view there is a real inflation problem in Germany and a debt /inflation problem in Japan - via a short in 10-year Bund and JGB bond futures. We will look to add to duration in the US on any setback, by adding predominantly to long dated US Strips with yields above 5%," Thursby concluded.