“Government over-indebtedness is a very real risk to the economy”

In MAPFRE AM’s last Interview of the month, we talk to Julian González, fixed-income manager, who warns of the risk that government over-indebtedness poses to the economy. “As long as the economy is growing at a good pace, debt is not a big problem; but if you are over-indebted and an economic crisis comes, you could run into serious problems,” he says. Furthermore, considering the current situation, he advises investors to avoid reinvestment risk by not taking excessively short or long positions, due to significant uncertainty regarding future economic growth.

 

• How long have you been working at MAPFRE AM and what are your duties?

I’ve been at MAPFRE AM for a little over three years, after coming from Banco Santander. I work at the fund management company as a fund manager, within the Fixed Income team. Our main responsibility is to manage the bond positions, from both public and private issuers, within the different investment, pension, and guaranteed funds. We are a small team and we all do a bit of everything, but my primary responsibility in the department is managing corporate credit for the different funds.

• How do analysts’ rate forecasts on either side of the Atlantic affect the fixed-income market?

Forecasts of interest rate movements are crucial for managing fixed-income funds because your expectations about the yield curve influence how you manage the funds’ interest rate risk. Such management is essential for the proper functioning of a portfolio and also directly impacts credit risk. Depending on your expectations, you take more or less risk, increase or reduce the duration of the funds, and position yourself in one part of the yield curve or another.

• In the current environment, what are the most appropriate terms for the individual investor? What is the duration of MAPFRE portfolios?

We would really have to analyze the characteristics of each investor individually, since each person has their own risk profile. However, if I had to generalize, based on the short-term expectations of falling interest rates, I would advise investors to minimize the risk of reinvestment by avoiding positioning in maturities that are too short. This way, they can enjoy high returns even when rates decline. I would also not recommend positioning in long maturities, as there is a lot of uncertainty about future economic growth. For me, three years is a good term at the moment — of course, keeping the investment until maturity.

Each fixed-income fund we manage has its own prospectus, detailing the specific characteristics that should guide the management of that fund. Among these, the prospectus specifies the target duration of the fund, so the duration of each MAPFRE fund depends on what its prospectus says. It’s true that the manager has some flexibility to lengthen or shorten the duration depending on their view of the market. At the moment, the funds we manage all have a somewhat longer duration than what would be their neutral point (the duration specified in the fund’s prospectus).

• What would you recommend to an investor who already holds bonds in their portfolio, considering the potential rate cuts at the upcoming ECB meeting in June?

I would advise them to hold on to their investments until maturity to ensure profitability. When rates fall, the yields of all assets will decrease, and achieving the same level of profitability would require taking on more risk.

• May has been a busy month for fixed-income issuance. Why Is this beneficial or detrimental to the saver?

It’s true that this May is seeing strong activity in the European primary market. Last week, for example, €27 billion was issued, which is below the previous week’s €47 billion (which almost equals the year’s weekly record of €47.5 billion in the second week of January). Fixed income is undergoing a remarkable turnaround in May, marking a significant shift in what has been a challenging year for this asset class.

Given the expectations of interest rate cuts by central banks, the interest rate curve has started to ease with downward movements, signaling that cheaper issuance is possible. This decline in rates enables many companies to seize the opportunity to issue debt more frequently, expanding their issuance volume. In the last few days, the end of the quarterly corporate earnings season, which have generally been good, has also caused corporate debt placements to soar to historic highs. Moreover, as the yield curve is inverted, companies are taking advantage of the situation to make long-term issues at lower absolute yields than in the short term.

This situation is beneficial for the investor, since the more paper issued, the greater the supply, and the more supply there is, the more bond prices fall. Consequently, yields rise, giving the opportunity to buy at better yields.

• What opportunities are there in the public debt segment? And corporate?

Right now, there are few opportunities in both government and corporate bonds, at least in Europe and the US. There is a lot of liquidity in the system, which means that there are a lot of people trying to invest that liquidity by buying various types of assets, including fixed income. This high demand is driving prices up significantly. We are in a situation where all assets are very expensive, and if you want returns, you have to take on a lot of risk. Let’s say that the price difference between a good asset and a bad asset is not so great that it compensates for the difference in risk between one and the other.

• Government over-indebtedness is a major concern among experts and analysts. Is this risk real? Can it affect credit quality and therefore portfolios?

It’s a very real risk. Let’s not forget what happened a few years ago during the great credit crisis, where many governments worldwide were compelled to implement significant spending cuts and accept high interest rates to access new financing in the market. This was due to the widespread distrust regarding their ability to repay the debt.

Debt has to be repaid, and excess debt conditions the economy of future generations. As long as the economy is growing at a good pace, debt is not a big problem; but if you are over-indebted and an economic crisis comes, you could run into serious problems.

Excess debt directly affects a country’s credit risk and, therefore, the credit risk of companies operating in that country. If a country’s perceived risk of default increases, it could affect its rating downwards. This could be directly transferred to the rating of companies resident in the country and cause stock and bond prices to fall, affecting the overall value of portfolios.

 

• Hobbies: I like sports in general, and I have been boxing for several years. Besides being a regular at the gym, I enjoy riding my bike with my family. I also like music and walking in nature.
• A favorite dish: A good paella.
• A city/country: Sydney, Australia.
• Favorite musical group/singer: I love all music in general, and I like a lot of bands that play different styles, but my all-time favorite music is Rock & Roll, and I would say Guns N’ Roses is my favorite band.