EUROPE - European pension funds are showing strong interest in increasing their allocation to inflation-protected bonds on the back of concern about the potential rise in global inflation from its current low levels, says Baring Asset Management (BAM).
Although Eurozone inflation-linked bonds are mainly issued in France and Italy, BAM says they could still appeal to other European pension funds.
“Although current Eurozone inflation-linked bonds are predominantly issued by the French and Italian governments and track French and Italian inflation indices, correlation between inflation rates in different European countries is high enough to match liabilities for say, a Dutch pension fund,” said Nick Davidson, sales director at BAM.
BAM says inflation-linked bonds offer more than just inflation protection – diversification benefits and the recent growth of the inflation protected market are also contributing to rising interest in the asset class, especially in Europe.
“Inflation protected bonds offer a real return, over and above inflation, and are in many ways the real ‘risk free asset’ for European institutions with inflation linked liabilities,” Davidson said.
“An ideal structure for many European pension funds is one that combines a benchmark of European inflation-linked bonds with a global opportunity set to provide an ‘anchor’ to the country’s base currency, as well as liability matching and scope for out performance through global markets.”
BAM is optimistic on the potential of European 10-year inflation-linked bonds outperforming conventional bonds by a “substantial margin” over 2005, depending on how quickly inflation accelerates and whether it is concentrated in the US or globally.
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