investment insights
The time to lock-in high interest rates is now
Key takeaways
- The Swiss National Bank (SNB) kicked-off a new monetary policy cycle with the first interest rate cut among developed markets’ central banks
- Switzerland’s inflation is within the SNB’s target range and expected to remain there; 10-year sovereign bond yields have declined, and the Swiss franc weakened further
- This offers an opportunity to lock-in high US dollar and euro yields for buy-and-hold investors; for those seeking absolute returns it is time to extend portfolio duration
- Our new strategic asset allocation framework already increased exposures to fixed income. Tactically, we continue to overweight government bonds.
The rate cutting cycle has started. The Swiss National Bank became the first G10 monetary authority to lower its key interest rate. Our peak-rate scenario is beginning to play out, and we believe that investors should take advantage of the rise in yields in US dollars and euros to build fixed income exposures, and diversify portfolio returns across asset classes.
Just like during the rising interest rate cycle, the Swiss National Bank (SNB) once again took markets by surprise on 21 March 2024, by cutting their target rate by a quarter of a percent, and thereby becoming the first central bank in developed markets to initiate a rate-cutting cycle. This comes only a few days after the Bank of Japan was the last developed market central bank to finally hike rates. The SNB's cut is an impressive show of independence versus other central banks. The SNB has of course been very well positioned to cut rates as inflation has already fallen from its peaks into the central bank’s price-stability range of 0-2%. While we indeed expected the first move at March’s meeting, this was not a consensus view. The SNB is clearly not worried about any detrimental effects from a slightly weaker Swiss franc as it precedes others in loosening monetary policy. In fact, the Swiss export sector and Swiss economy will welcome a slightly weaker franc. What’s more, the SNB never raised rates as much as other central banks, and so it will also perhaps end up cutting rates by less than its peers, and so should keep the impact on the franc contained. We expect -50 basis points (bps) this year whereas others may end up cutting 75-100 bps over the same time, if inflation is headed the right way.
It's time to lock in high interest rates
At first glance, a 25 bps rate cut by the SNB does not change the bigger picture – or does it? It is true that bond yields and cash rates are still at levels that are attractive in countries where inflation has been volatile. Nevertheless, it is in fact a powerful signal to markets that the rate-cutting cycle has started, and yield curves will begin to price this reality more significantly over the coming weeks and months. Similarly, cash rates will not stay this high for much longer. Over the last 12 months, Swiss 10-year government bond yields already fell by 45 bps and more is likely as the SNB follows with further cuts (see chart 2).
This is therefore a good moment to seize the opportunity to lock-in elevated yield levels, build fixed income exposure in portfolios, and spread returns more widely across asset classes. Investors still have a window of opportunity in US dollars and also in euros to take advantage of the rise in yields that was provoked by recent inflation disappointments. Inflation is volatile but our analysis shows that in the US, the inflation volatility regime is now shifting from higher to lower, and investors should not miss out.
Our investment strategy remains on track
Good quality corporate bonds offer yields well above 5% in dollars, 3.8% in euros, 1.7% in Swiss francs and 5.4% in sterling. This is a good time to lock-in these yields for buy-and-hold investors, and for absolute return investors, it is an interesting moment to add some longer duration to portfolios. For equities, the SNB’s starting signal is good news too. It helps valuations, and indirectly also earnings, if looser monetary conditions eventually translate into better economic and corporate growth.
Once again, I can only emphasise how important it is to reflect changing market conditions in investors’ portfolios. Whereas asset allocations had to be heavily weighted to equities to generate returns through the Covid years, conditions are now right to diversify portfolios more broadly. We have already adjusted our strategic asset allocation to reflect this, increasing exposures to bonds more broadly, and into high quality equities including US stocks. Tactically, we are also overweight government bonds, which should benefit from the SNB’s signal to markets.
Market developments look set to remain dynamic and it is crucial to stay active in portfolios given the shifts in the environment. The time when cash was king looks to be fading.
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