Pachatouridi (BlackRock): The return on fixed income will be driven by ETFs

The numbers for 2023 (and early 2024) shows a growing investor appetite for the bond market exposure via index offering. The outlook for a market that could mark a further turning point in shifting from the zero-rate cycle to the current 'higher for longer', in an interview with the head of EMEA iShares Fixed Income Strategy at BlackRock

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After an economic cycle lasting more than a decade that penalised the role of FI in portfolios, bonds have returned to offer yield and diversification. According to VASILIKI PACHATOURIDI , head of EMEA iShares Fixed Income Strategy, the ability to immediately implement allocation choices and the increasing, and already evolved, granularity of exposure opportunities will increasingly drive investors to choose index.

The markets' great expectation as far as fixed income is concerned is obviously on the start of rate cuts by the Fed and the ECB. What could be the consequences for investors?

2024 has the potential to be a better year than 2023. In particular, we could expect a “cash conversion” by investors in the various asset classes.

If we turn back the hands to a year ago, we were coming off a very negative 2022 and risk appetite overall was low.?Now we are in a very different situation.

This will be the year of rate cuts and disinflation, which is likely to open up new opportunities alongside lower cash levels in the average clients’ portfolio.?

What could eventually go wrong?

We should look at dispersion between markets and macro – in other words what the market thinks and what macro data show.

In the US the situation diverges from Europe. In the United States, until the end of January, markets were pricing in the Fed's March rate cut at 50% probability. However, on 1 February, at the last meeting, Powell ruled out this possibility…In Europe the economy is in recession. As a result, market expectations predicting five cuts during 2024 will not be “so far from the truth.”

What does this 'difference' between the two sides of the Atlantic mean for investors? Where do you see the best opportunities?

The alignment between markets and macro dynamics can be seen as one of the factors that makes us lean towards a positive assessment of the outlook for European fixed income. We believe now is the time to position to capture the carry generated by the rate hike of the last two years and be ready to benefit from future valuation growth once rates move lower.

Also in relative terms to?European?equities, the euro- denominated bonds are attractive because they offer a good level of return vs lower risks than equity. It is also for this reason that it is possible to see an investor tendency to lengthen the average duration (compared to the US).

2023 was the first year since 2015 in which euro-denominated fixed income ETFs had higher flows than dollar-denominated ones, and this trend continued in early 2024. We saw great demand from investors, particularly for products investing in the investment grade segment of European credit, with positive flows of over EUR 3 billion in January alone.

This is certainly a significant number, on par with those shown by the European ETF market, which grew by 24 percent overall in 2023 compared to 2022, bringing assets to 1,640 billion (Morningstar data). Flows on fixed-income ETFs increased by the same percentage as those on equities, +70% year-on-year. Do you expect the same growth rates for 2024?

We believe that investors would continue to show strong interest in bonds, also in 2024. Taking European credit as an example, there is one product in our range that well represents the trend in this market. The IEAC (iShares Core € Corp Bond UCITS ETF EUR) can be considered the barometer of its segment in terms of size and use. In 2024, we have already seen consecutive days in which IEAC traded on the secondary market with a volume of more than EUR 1 billion.

This provides more than one clue around why the fixed-income ETF market is set to continue on the path it has taken in recent years. The ability to trade instantly to position is crucial for investors. Today we are already over $2 trillion in assets globally, but if we look at the size of the bond market at over $100 trillion, it is clear that the room for growth is still enormous.

Moreover, from an investor's point of view, we are coming from an economic cycle in which fixed income had a residual role in portfolios given yields very often close to zero and very little diversification potential in light of the central banks' ultra-expansive policies. Today, the situation has changed and investors' return to the asset class will be increasingly concentrated on a product type that can guarantee both granularity and the possibility of immediate implementation of asset allocation choices.