GLOBAL - Pension funds seeking to match future liabilities and concerns about rises in inflation will lead to substantial growth in the market for inflation-linked bonds across the globe in 2005, says F&C Asset Management.
Helen Roberts (pictured), head of government bonds, said: “As higher inflation becomes an increasingly real prospect across the globe, demand for inflation-linked bonds looks set to rise.
“Indeed, while many investors have held domestic-issued inflation-linked bonds for a number of years, we anticipate 2005 will be the year when investors seek to maximise their portfolios’ risk/return profiles by diversifying into the increasingly more liquid global inflation-linked market.
“We believe the ever growing importance of liability matching for pension funds will also spark immense growth in the asset class. Regulatory change across Europe and, in particular, a new EU directive due in September 2005 mean European pension funds will almost be forced to increase weightings of inflation-linked bonds within their portfolios in a bid to better match their liabilities.”
F&C believes Europe will experience the biggest growth in the sector, due to the trend to liability matching coupled with increased inflation fears.
The firm is least positive about the take-off of inflation-linked bonds in the US market, where it says real yields appear too low, particularly ahead of substantial issuance and the lack of inflation-linked liabilities in the US.
In the UK, F&C said an increase in wage inflation could develop over the course of the year meaning inflation-linked bonds will outperform nominals. The firm is cautious on long-dated inflation-linked bonds, however, given current valuations and supply concerns, as it anticipates the UK government could issue 50 year inflation-linked bonds for the first time this year.
On Japan, F&C said demand is likely to increase as deflation comes to an end and the country enters a period of inflation. Germany plans to issue its first bonds in 2005, and Belgium and Switzerland could follow suit.
“Demand from the Dutch pension industry for inflation-linked bonds has led to the Dutch state treasury announcing that it is considering issuance of inflation-linked bonds,” F&C said. “This is expected to be particularly strong following new regulations on liability matching instigated by the Dutch government and due to come into force in 2006.”
F&C also expects the Dutch insurance industry to provide a source of extra demand for the asset class, also as a result of new liability matching regulations.
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