Recent selling of risk assets into traditional haven government bonds has taken their yields back near their all time lows. Will people continue to buy them in a risk off trade? We are almost certainly nearer the beginning than the end of a western world sovereign debt crisis. That means quite clearly that Gilts, Bunds and Treasuries are not the ‘risk free’ investments they once were. In relative terms, their risks are low and perhaps falling. But in absolute terms, their risks are high and rising. The US was just downgraded from AAA by S&P, and yet their yields are still rallying, contrary to the expectations of many and contrary to traditional theory. If greater fiscal union is the final solution to the peripheral European sovereign debt crisis, then the transfer of wealth from Germany and other strong EU states to the weaker ones will see Bunds, amongst others, sell off dramatically. Yet if fiscal union is unacceptable to some EU states and it fails to get parliamentary approval, then surely Bunds will remain firmly within the very top echelon of government bonds in the world, with yields potentially less than 1%? Perhaps the austerity plan which has been so important in supporting Gilt yields and the AAA rating in recent times sees UK borrowings become the last true safe haven in the Western world? Yet the low economic growth consequences of this approach could also scupper the plans and have just the opposite effect. As you can see, in each case traditional economic views and expectations about these ‘risk free’ safe havens could prevail, or could be utterly wrong. That doesn’t sound to me to be very risk free at all!
So, to where do we retreat in a new paradigm in which traditional safe havens are no longer such? Given the recent widening in credit spreads, I believe that some of the high quality investment grade credit now looks good value again. Maybe, just maybe, the new safe haven could become the high quality, low beta, internationally exposed, lowly geared, corporate bond universe?