Although there was no shortage of headlines in September, the performance of the JACI index was the opposite of August. JACI, which is made up of about 80 per cent of investment-grade bonds, posted a loss of 0.18 per cent in September, the first negative monthly return since 2019, mainly because the Treasury yield curve rose by about 15-20bps.
The return on the JACI high-yield debt index was 0.43%, better than the JACI investment grade of-0.36%. For investment-grade bonds, while risk sentiment has increased (that is, credit spreads have narrowed), Treasury yields have also risen, leaving returns on investment-grade bonds still negative, which is the norm. On the other hand, the rise in risk sentiment in September helped high-yield bonds, which are less sensitive to interest rates, recover some of their August losses.

The dollar index rose to a year-to-date high of 99.4 in September, while the offshore yuan stabilized at 7.15 after peaking at 7.18 on September 3. The "first stage" trade agreement has just been reached between China and the United States, which is undoubtedly positive.

However, the implementation mechanism and dispute resolution process are not clear, and the future negotiation process is still vague. Us officials point out that the agreement has not yet been drafted and that Chinese officials need to bring it back to China for approval, while plans to impose tariffs in December have not yet been cancelled.
After a similar meeting last spring, the US president also pointed out that an agreement would be reached in a few weeks, but ended up with new cross-tariffs. Other more controversial issues are unresolved, such as subsidies for state-owned enterprises and the handling of the Huawei incident. At the same time, the imposition of tariffs is having an impact on the economy, and downside risks will remain in the future negotiation process.

While manufacturing and business capital spending are weak, strong services, labour markets and consumer spending provide good support for the global economy. A stable job market and a record low unemployment rate are often cited by Fed members as reasons for "insurance interest rate cuts".

Nevertheless, this view has changed recently. The latest economic data show that weak capital spending is beginning to spread across the economy, leading to a slowdown in job creation and a decline in consumer confidence and spending. The service sector PMI index was generally lower than expected, while the US manufacturing PMI reading fell sharply, entering a contraction area, and its employment sub-entry recorded the lowest reading since 2016. This is a worrying sign that the US labour market is starting to cool and that non-farm payrolls data have recently been revised down. Global economic data for September show that anaemic manufacturing growth is spreading to non-manufacturing sectors and affecting employment to a greater extent.

Global macro data generally weakened in September, pushing ten-year u.s. Treasury yields close to a year-to-date low of 1.5%. Federal fund futures prices were implied at the October meeting, where the probability of a 25bp cut was more than 70 per cent. But we prefer a more neutral duration. After all, whether yields will break through the range established from August to early September depends on ongoing Sino-US trade negotiations.

For now, we don't think the Fed will cut interest rates in October, mainly due to divergent views among Fed members, and a slowdown in the US economy does not immediately pose a recession risk.

While we agree that there are some benefits of lengthening long-term periods in uncertain markets, especially in the context of slowing global growth and growing negative-yielding debt, long-term structural demand is strong, but from a risk-return perspective, the current level of absolute yield is low and volatility is high, and the long-term attractiveness is less. therefore,We will maintain a neutral duration in the short term.

We continue to prefer 30-year investment grade bonds, mainly because of their negative convexity and buying support from insurance companies, while selectively increasing our holdings of short-term high-yield bonds to balance the duration of the portfolio and improve yields.

High-yield real estate bonds have been sold off sharply against the backdrop of tighter financing conditions and slowing sales. China's high-yield real estate bonds yield 7 per cent, 9 per cent and 13 per cent on BB, B and highly volatile B ratings, close to the highest levels in the past decade, and valuations are already attractive. The ratio of credit spread and absolute yield between high-yield bonds and investment-grade bonds is at the highest level.

Tight financing conditions will undoubtedly put pressure on the liquidity of developers, but it can also bring opportunities for large developers with richer resources. After several years of rapid growth, many real estate companies have begun to slow the pace of expansion, with larger assets, lower leverage and better credit standing.

At present, we see a good opportunity to allocate high-quality real estate bonds at higher yields than at the beginning of the year, but it will be more selective in terms of allocation, considering the maturity peak in 2020 and the corresponding larger supply may be a drag on the market.