FidelityConnects: Global bond markets: Themes to watch for Q2

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Hello, and welcome to Fidelity Connects.

 

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I'm Pamela Ritchie. Fixed income markets entered the year on cautious footing

 

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but have held up better than many might have expected.

 

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A pretty rapid shift in rate expectations has pushed yields to

 

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levels that we've not seen in years.

 

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At the same time, demand for credit continues to outpace supply even

 

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as issuance tied to AI, data centres, and energy infrastructure

 

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accelerates.

 

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While volatility has hit commodities and rates credit markets

 

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have yet to experience the kind of stress that forces broad-based selling.

 

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As our next guest puts it, quote, we haven't seen the capitulation moment yet,

 

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end quote. What does all of this mean, ultimately, for fixed income markets and

 

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portfolio positioning today?

 

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Joining us here today with his perspective on the key trends shaping global

 

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bond markets and where he sees opportunity is Michael Foggin.

 

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He is portfolio manager of the Fidelity Global Bond Fund joining us

 

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live from London. Hi, Mike. How are you? Nice to see you.

 

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Very well, good to see you.

 

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Thank you for joining us. I think it's going to get dark in the window behind

 

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you as we have this conversation because you're closing out the day.

 

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We'll invite everyone to

 

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send questions in for you over the next half hour or so.

 

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I'd like to ask, first of all, if you can help us understand whether we

 

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know, or if you know, what kind of shock this is.

 

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Well, unfortunately, I don't have an easy answer for you.

 

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We don't know yet.

 

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We've certainly priced in some inflation expectations.

 

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We've seen some volatility at the front end of the government bond market.

 

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We've seen some drawdown in the equity markets, a lowering of

 

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multiples. What we haven't really factored in yet is

 

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that sort of higher for longer energy price which really could compress margins

 

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and could really force a bigger correction in

 

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the equity market which would then flow through to the credit market and see

 

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wider spreads there. So far, I think the market is still

 

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looking for rays of light, looking for exits, and

 

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we haven't yet fully priced in it being structural as we just

 

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don't know.

 

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We don't know if it's structural. What you mean by structural, I think, is

 

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whether we just live with higher energy prices for a longer period of time.

 

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Absolutely. I personally don't see a way that we walk

 

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out of this with energy just moving back to where it was, a status quo.

 

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I think at the very least it's going to take quite a while to work through the

 

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backlog. I think there should then be a risk premium attached to that.

 

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I sort of feel like there should be something more priced in than has been so

 

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far but we

 

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are moving from social media headline to

 

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headline and it's very hard for the market to try and price that.

 

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Take us back to the beginning of the year, which seems like a very long time

 

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ago. It was actually literally to the day three months ago.

 

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The world was awash in perhaps taking a look at the disruptions

 

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from AI, or that's come through probably in the most recent month, certainly,

 

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the discussion of international trade, perhaps less of the US exceptionalism,

 

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that's more of an equity story, there was an international resurgence afoot

 

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and where was AI going to hit?

 

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Tell us a bit about how you walked into the year.

 

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We walked in wondering what could possibly upset the market.

 

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Yield seemed pretty attractive in the fixed income market.

 

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We felt like the economy is going to do pretty well, perhaps buoyed by

 

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some of the AI CapEx, also some fiscal spend from governments, not least

 

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Germany with a huge fiscal plan.

 

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It sort of felt like while credit spreads were particularly tight

 

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the disruption we were going to see was going to be limited, limited to

 

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certain areas and sectors, we can talk about that later, but it felt like

 

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credit spreads were rich but all-in yields were pretty attractive.

 

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The one thing that was sort of the big issue that was on people's mind was the

 

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amount of issuance that was going to come from hyperscalers.

 

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And it did come. I mean, we've seen a ton.

 

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Absolutely.

 

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The question about how the market was going to digest that amount of issuance

 

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sort of felt like worry number one.

 

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It's certainly not worry number one anymore but it's still there.

 

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The amount of issue that was done in 2025 was

 

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five times what was done in 2024.

 

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What's going to be done in 2026 will be at least double that.

 

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Numbers get up into the trillions and quite how the market

 

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digests that is a question.

 

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Is it oversimplifying to say that it's almost like a new, it's not a new asset

 

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class, it's fixed income and they're issuing bonds, but it's a certainly very

 

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new, large piece within the fixed income market that's having

 

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its first big test.

 

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What we're seeing is issuance from high quality

 

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issuers, bonds from high quality issuers, often longer dated,

 

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higher rated than the index, but can grow to be a

 

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significant portion of the index, bigger than, perhaps, banks or utilities.

 

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To have this new

 

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cohort of bonds which, perhaps, dealers and hedge funds and

 

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other participants can use as a beta, as a market barometer, it's

 

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almost like a pressure gauge of, well, I need to buy risk, I'll buy these

 

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bonds, I need to sell risk, I'll sell these bonds.

 

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We've had it in the past with other sectors like autos or telcos,

 

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they're sort of the bonds that people reach to because they're easy to trade,

 

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you can trade a large size in them, you can short them,

 

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so they become the barometer of the market.

 

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I feel that's where we may end up with these bonds.

 

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There's a lot of

 

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risk being added in, and I don't mean risk as in these are risky issuers,

 

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I mean longer dated bonds.

 

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When they move they move by multiple points and they can impact your portfolio.

 

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They're being issued on both sides of the Atlantic, certainly.

 

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We're seeing issues, especially by the hyperscalers, by the Mag-7, whatever you

 

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want to call it, on both sides, and as you say, very long dated.

 

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It's interesting to know ... we know where that money is going but

 

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the exposure within it, because we seem to still, and there always

 

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will be questions about this technological revolution,

 

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industrial revolution, whatever you want to call it, and just how well

 

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markets are priced for it right now.

 

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There may be some slides as we go along here.

 

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Just tell us about that risk and, basically, the AI disruption risk.

 

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When we think about how AI issuers

 

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will impact the fixed income market, I sort of think about it in three ways.

 

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I think about the issuance, this huge

 

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amount of bonds which will be coming to the market.

 

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They're not price insensitive but they certainly don't

 

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mind if spreads are a little bit wider.

 

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Then I think disruption risk, I think about issuers which may be in

 

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the portfolio or may be in the index or sectors where their

 

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business model is impacted by this new technology.

 

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Thirdly, I sort of think, which is really hard to comprehend

 

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sort of the macro impact of AI in the future and what that might mean for

 

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productivity, inflation, growth, et cetera, and then

 

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peripheral risk to that. We talked about the amount of issuance that there is.

 

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I do think that is a test for the market to see how the demand

 

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that we've seen throughout 2025 keeps up with this amount

 

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of issuance.

 

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Now, given what's happened in the last month and the higher yields

 

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I think demand will be pretty solid once we get some clarity

 

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on where the world is going.

 

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I think that demand [video cuts out] markets and they're much

 

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less exposed to the software and services that the US

 

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market has been. When I think about whose business

 

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model is disrupted it is issuers who are, perhaps, down

 

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capital structure and the policy structure, perhaps have issued loans,

 

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private credit or high yield. Software was a big part of

 

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those markets, and markets trying to struggle

 

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with winners and losers.

 

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Who is buying, whose business model is still solid, and whose perhaps needs to

 

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be re-rated? We've seen less of that in [indecipherable] markets.

 

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When you think about large sectors like utilities,

 

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[indecipherable] the winner with increased energy demands, banking,

 

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perhaps less impacted, business model isn't that easy to step into,

 

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insurance, real estate, et cetera.

 

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We're not seeing the whole market

 

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being impacted by AI. Therefore, it's sort of an idiosyncratic risk which you

 

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can manage within your portfolio.

 

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In the long run, what does AI mean to society?

 

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Well, it's a very big question, and how

 

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central banks manage to navigate through the

 

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increased productivity with potentially lower employment, et cetera, that's

 

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almost the story for further down the road.

 

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For now I feel like issuance and the idiosyncratic risk

 

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is what we need to focus on.

 

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Okay, and that's great. You're speaking here to Canadian investors and

 

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the discussion of where to go to avoid AI disruptions

 

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was very much the question a month ago before the war

 

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became the frontline story for sure.

 

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We'll talk more about that in a second because there's a lot to do with the

 

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energy for everyone.

 

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In the sense that if you were to take a look at a portfolio of bonds that may

 

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be more internationally focused you would probably have less exposure and

 

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therefore less risk to AI disruptions.

 

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Is that right?

 

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For sure, the BDCs, the business development [inaudible] that have

 

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struggled, there were definitely some winners in there but there's

 

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just less issuance in Europe. There's less software issuances in Europe.

 

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If you were to look at a broad portfolio you're going to have less exposure to

 

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that disruption in international.

 

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As always, I always preach that the more diversification the better.

 

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I don't think you need to call these sort of big

 

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directional macro calls, diversification will always be your friend.

 

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Let's go to rates, and we might even be able to put that within the sort of

 

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framework of diversification, because it appears

 

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that, perhaps, the Fed has more of an opening just because they're up higher

 

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in their rates right now, to decide what they want to do.

 

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Much of the rest of the world has finished their rate cutting cycle and is in a

 

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position where they were planning probably just to stay there [audio cuts out]

 

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would be hikes but not for a while.

 

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How much, I mean, it seems like that's entirely disruptive.

 

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You see movements constantly on this.

 

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Just take us through the rate story from your perspective.

 

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Away from gas and oil prices directly,

 

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I think the front end of government bond markets has been where it's really

 

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felt the most volatility, the most disruption.

 

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It's really a change from that [inaudible] hold to maybe we'll

 

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get a couple of cuts away, we think about the Fed or the Bank of England, to

 

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that's it, no more cuts, rate hikes. I think the market's priced in something

 

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like 18 rate hikes across developed markets.

 

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That's a huge shift in one month.

 

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We've seen a sell-off of something like 70, 80 basis points at the front end of

 

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the Euro market, 50, 60 at the [indecipherable] market,

 

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50, 60 in euros, 30, 40 in dollars, big,

 

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big moves, big, big changes of expectations.

 

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That's because we've suddenly gone from inflation's under control to

 

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we don't know, we don't know.

 

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We don't know how long is this going to be, when is oil going to

 

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stop, how much is that going to flow through?

 

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Even if they decide it's over when is the gas going to come back online, when

 

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is the oil going to come back on line?

 

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It's a really uncertain picture so that front end has really,

 

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really moved.

 

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I think there was some crowded positioning in there.

 

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I think people liked the shape of the bond market, as I mentioned at the start.

 

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The outlook was pretty benign when we opened so a little bit of carry is always

 

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attractive, a little bit of a cut here and there looks pretty good.

 

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Inflation seemed to be going pretty well.

 

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I think there was some flushing out positioning there.

 

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Those moves have been pretty intense.

 

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Pretty intense, and I guess one of the questions that brings

 

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in sort of from the euro perspective, let's bring in the war.

 

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There have been many different voices about who started,

 

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who's going to join in in certain parts of the effort of this

 

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war to overall do lots of different things, one of them that we're basically

 

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talking about is to bring energy prices down.

 

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There have been fragmented responses to that.

 

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From the European perspective in terms of what they

 

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need to do to make sure that they're issuing in ways

 

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that help them and help the world and so on, what do they do?

 

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Is there an increase in demand for issuance for

 

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utilities, for instance, to get energy pulled in from everywhere?

 

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What do we see on that, what increases?

 

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Europe was really going under an energy transition already

 

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even prior to Russia, Ukraine.

 

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Europe was trying to greenify its economy.

 

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The Russian invasion of Ukraine really focused that and

 

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they need to get off non-domestic

 

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energy sources, and they need to ramp up renewables, pretty

 

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much what they were looking to do, or get up on different gas sources.

 

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That has been helpful to some degree but gas is still probably

 

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25% of the energy demand in Europe, and a lot of that coming from the

 

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Middle East so huge amounts of disruption.

 

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Hence, we've seen the big moves in inflation expectations both

 

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in the UK and in Europe.

 

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I think this conflict, this war,

 

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whenever, however it ends, will just go to focus the minds even more

 

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that each country needs some form of

 

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energy security and they will continue to go down the

 

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path of renewable energy.

 

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I think that will lead to increased issuance

 

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from utilities, again, similar to the issuance that we talking about

 

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out of the AI companies in that

 

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it'll be high quality issuance, it'll be ...

 

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to some degree the utilities are even more systemic to the economy,

 

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is there some kind of implicit guarantee there from

 

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governments perhaps, I think it's an issuance that the market will be happy to

 

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take down but I don't see that

 

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story diminishing. I think that continues to go or continues to get increased

 

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issuances out of European utilities to deal with this.

 

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One of the big stories from last year was the increased spending of governments

 

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in Europe on defence. Canada is in a similar position.

 

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Was that a huge story last year?

 

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Are we going to continue to see pieces of that unfurl?

 

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Is it a significant part of your business? I mean, how does that fit?

 

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I think we continue to see that again.

 

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I think this will just go

 

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to intensify that need to increase spending.

 

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There was always a friction between

 

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government budgets and the ability to spend and can

 

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they put it off?

 

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A colleague of mine has just come back from Europe and he feels like that

 

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story's still well underway and we'll continue to see increased spending

 

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from all the European nations.

 

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There's always a question of home bias and where will they buy the

 

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defence from, can they do joint procurement, could you see

 

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Germany, France and Italy, Spain together buying,

 

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and if they do which defence company would they buy from,

 

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there is always a question of fragmentation in Europe.

 

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Do they need a euro bond to buy it with wherever they buy it from?

 

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Well, we continue to think about mutual issuance

 

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and I think all of these situations,

 

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be it the sovereign crisis, be it the war in Ukraine, now

 

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the next energy crisis, I think that just pushes Europe closer together.

 

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I think the hurdles to

 

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mutualization of debt just continue to be moved forward.

 

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I'm not going to say, yes, it's happening next year but I think the probability

 

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of it goes up every time we have one of these situations.

 

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Maybe you get a defence bank and they issue

 

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similar to the European investment bank, maybe we get a European defence bank.

 

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That was an idea that

 

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was being floated around at the moment.

 

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I think all of this just pushes cohesion within Europe, it pushes Europe closer

 

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together, which I think will

 

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be a positive thing.

 

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Tell us a little bit about risk appetite, maybe even contrasting it to

 

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the beginning of the year.

 

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I'm thinking of equity investors but you can expand this, once anyone gets sort

 

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of shaken through a big event and, I mean, there's still

 

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dip buyers in the equity market all over the place so it seems like maybe it

 

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isn't a huge event yet.

 

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But were it to be so, in theory, you would see

 

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risk appetite for bonds increase, no?

 

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Or an appetite for bonds increase, essentially.

 

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The demand for credit was

 

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insatiable in 2025 and up

 

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until the start of this conflict.

 

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The ingredients for that of attractive yields and questionable other areas to

 

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invest in remains, if anything, it's increased within yields going up.

 

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I think that demand will still be there.

 

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I think we would need to see, again, some

 

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clarity on where we're going on the geopolitical side before you see that

 

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bump back up again. When you think about individuals

 

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and what they want to do with their savings and you suddenly see a much more

 

[00:19:05.677]

attractive fixed maturity

 

[00:19:09.715]

bond I think the demand for that will continue to be high.

 

[00:19:12.151]

I do sort of expect that if we have a de-escalation

 

[00:19:16.855]

of this conflict, I would expect the fixed income demand to come back

 

[00:19:21.126]

pretty quickly and to see what weakening we had in spreads

 

[00:19:25.731]

retrace pretty quickly. The alternative to that is we don't get de-escalation,

 

[00:19:30.169]

we either get a sustained disruption

 

[00:19:34.273]

which then, as we discussed previously, really

 

[00:19:38.210]

starts to hit input costs and therefore we

 

[00:19:42.347]

[inaudible] the equity market, or we get some kind of escalation

 

[00:19:47.519]

[inaudible].

 

[00:19:47.619]

At that point I think everyone steps away and you get a gap [indecipherable] in

 

[00:19:51.223]

risk assets. That would be the point of which you would reset.

 

[00:19:55.060]

By a gap [indecipherable], I'm talking about credit spreads doubling and

 

[00:19:59.665]

heading back to certainly not COVID levels

 

[00:20:03.936]

but those sort of risk-off levels that we see every five years.

 

[00:20:08.373]

I think we would have that now because we've seen so

 

[00:20:12.411]

little volatility in credit spreads.

 

[00:20:16.582]

People don't want to sell them so everyone's holding on to their credit.

 

[00:20:21.887]

Equities are doing its thing, rates are doing its thing, vol is doing its

 

[00:20:24.556]

thing, we haven't had the capitulation where people sell their credit yet.

 

[00:20:28.360]

That's because they think any sort of normalization,

 

[00:20:32.698]

the demand is going to outstrip supply again and you won't get the bonds back

 

[00:20:35.667]

so people want to keep hold of them. The fundamentals of the underlying issue

 

[00:20:39.004]

is all pretty solid so no one's thinking they're sitting

 

[00:20:42.975]

on some problem child.

 

[00:20:46.778]

It's the sort of continuation of disruption

 

[00:20:52.284]

in the Straits of Hormuz, or an escalation, that can really cause that move

 

[00:20:56.121]

wider in credit spreads.

 

[00:20:58.890]

Then, as we've learned in the past, you have to be brave and buy.

 

[00:21:06.031]

It'll be very uncertain period.

 

[00:21:09.034]

It's been said for, I think, months now that there's only one way for credit

 

[00:21:12.537]

spreads to go. Nobody knew what the catalyst would be because, of course, you

 

[00:21:15.507]

don't.

 

[00:21:17.542]

Is this the catalyst?

 

[00:21:21.446]

We've seen probably in US and Europe, probably

 

[00:21:25.417]

a 20% widening in credit spreads.

 

[00:21:27.519]

To put that in perspective, US credit spreads have

 

[00:21:31.857]

gone from their first percentile, as in as tight as they can be, to their

 

[00:21:35.927]

10th percentile. We're not near the median, we're

 

[00:21:39.931]

not cheap — or 20th maybe.

 

[00:21:43.101]

Similarly for Europe we've probably gone from 10th to

 

[00:21:47.105]

30th. We haven't got to a point where you can look at credit spreads and go,

 

[00:21:49.841]

oh, that's cheap, I should be getting neutral there.

 

[00:21:58.216]

The supply-demand imbalance that's been there remains,

 

[00:22:02.354]

holding them very tight so I don't think

 

[00:22:06.491]

that's played out yet.

 

[00:22:09.027]

What do you think about the voices of central bankers right now?

 

[00:22:11.663]

This is more sort of TMZ for people

 

[00:22:15.701]

who trade bonds.

 

[00:22:17.803]

What do you say about some of the comments coming out from

 

[00:22:21.840]

central bank? We are hearing things like we're watching stagflation concerns

 

[00:22:25.577]

very carefully, there's a lot of comment and a lot of talk

 

[00:22:29.648]

that could or could not be useful, I would imagine.

 

[00:22:32.684]

I'm just curious what you think.

 

[00:22:38.523]

It's a tough place to be right now.

 

[00:22:40.459]

We have portfolios to manage and peoples'

 

[00:22:46.932]

assets to oversee but we can react on a daily basis

 

[00:22:51.036]

and we can mitigate risks and we can get

 

[00:22:55.107]

to neutral. We can have honest conversations with our clients about we

 

[00:22:59.177]

don't know what's going to happen but these are the risks that we think you're

 

[00:23:02.647]

facing. It's harder for a central bank when they

 

[00:23:06.685]

can cause the issue, they can create more

 

[00:23:10.689]

volatility if they start saying, well, that's it, inflation is here to stay and

 

[00:23:14.693]

we're going to raise rates. That's not their job to

 

[00:23:18.797]

create profitability.

 

[00:23:20.599]

Sort of erring towards the wait and see side

 

[00:23:25.604]

of it is essentially what they have to do.

 

[00:23:28.540]

They have to take on board the data they're getting, which is always backward

 

[00:23:32.611]

looking, and the market is forward looking so hence the market's priced in lots

 

[00:23:36.648]

of rate hikes and central banks need to say, well, the last data we had said

 

[00:23:40.452]

that we were fine, what do you want me to say?

 

[00:23:44.089]

It's a tricky situation. The market is reading in

 

[00:23:50.195]

rate hikes, not status quo.

 

[00:23:53.965]

Just to sort of close out take us through this a little bit.

 

[00:23:56.868]

The diversification in a global bond setting helps with sort of

 

[00:24:00.872]

that discussion of what is exposed to AI, because global bonds are just simply

 

[00:24:04.443]

less exposed and there's a few reasons for that.

 

[00:24:07.979]

Then we have the concern about where rates go,

 

[00:24:12.350]

rate risk, but ultimately sort of the moment that

 

[00:24:16.555]

you will take us through, or you would take investors through, to step in when

 

[00:24:20.859]

it looks like jaws are opening in the credit markets, which is a scary moment,

 

[00:24:23.895]

actually. For the investor who wants to sort of

 

[00:24:28.166]

enter what is this moment of diversification like?

 

[00:24:34.473]

The move we've seen higher in yields means that fixed income has,

 

[00:24:39.945]

by definition, become more attractive. The

 

[00:24:43.915]

uncertainty that we're seeing in other asset classes

 

[00:24:47.953]

and volatility makes some sense to me.

 

[00:24:52.691]

Now, I always think it's a good time to diversify but when you've seen an

 

[00:24:55.994]

underperformance of international rates versus US rates I think that's the

 

[00:25:00.832]

story that now is a better time to diversify.

 

[00:25:04.870]

I find it hard to argue for a credit-heavy strategy when credit

 

[00:25:09.107]

spreads are still at these tight levels. A diversified portfolio

 

[00:25:13.512]

that allows the manager to add risk when they see those opportunities

 

[00:25:17.482]

is certainly something that I think makes sense.

 

[00:25:20.685]

The ability for your manager to dial up

 

[00:25:24.756]

risk quickly is probably more useful than

 

[00:25:31.062]

then to try and do it very quickly by an ETF or

 

[00:25:35.166]

something on your own.

 

[00:25:38.103]

The moves, as we saw in Liberation Day, I think the sell-off lasted about

 

[00:25:42.207]

four hours and then you couldn't buy the bonds anymore.

 

[00:25:45.744]

You have to be quick.

 

[00:25:47.379]

I'm not saying that's the situation that we're in here.

 

[00:25:49.047]

This does seem to be a little more deep-seated.

 

[00:25:55.987]

We're running a portfolio which is pretty close to

 

[00:26:00.191]

home on credit risk with a little bit of a tilt duration, and

 

[00:26:07.032]

the liquidity to add the risk when we see that capitulation.

 

[00:26:09.367]

The one thing about credit spreads is that they

 

[00:26:13.838]

do overreact. At the moment they're overreacting by staying too calm,

 

[00:26:17.776]

and then we'll see them overreact by overshooting on the other side when

 

[00:26:22.747]

they feel like there's doom and gloom coming.

 

[00:26:25.917]

We saw that in 2022. That's an opportunity for active managers

 

[00:26:29.921]

to then buy selectively the right bonds that are being

 

[00:26:34.125]

sold by, perhaps, other managers.

 

[00:26:37.095]

Do you see the next while being a risky time, every

 

[00:26:41.733]

indicator when you're looking at MOVE, VIX, anything, it's

 

[00:26:46.771]

going to be a volatile time?

 

[00:26:48.940]

I do feel that way. From the start of the year when we were struggling

 

[00:26:52.911]

to see what was going to upset the market, now

 

[00:26:57.549]

I sort of wonder what's going to calm the market.

 

[00:26:59.451]

I feel the situation in the

 

[00:27:03.421]

Middle East is not one that we can just have a sign-off

 

[00:27:07.525]

and tick and move on from. The disruption is there, it's going to be with us

 

[00:27:11.296]

for a while. Those high energy prices feeding through the market are

 

[00:27:15.500]

going to take a while to digest.

 

[00:27:17.168]

While they're doing that there will be volatility in asset classes.

 

[00:27:22.240]

Interesting times [indecipherable] bonds.

 

[00:27:24.242]

Thank you so much, Mike Foggin, for taking us through that.

 

[00:27:27.012]

We wish you very well and good afternoon to you.

 

[00:27:31.816]

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