Rothschild: 'Safe' sovereign debt could come under pressure

Rothschild Private Banking & Trust has warned that perceived safe haven government bonds are on very shaky territory.

As the economic and financial outlook severely deteriorated in May and June, investors flocked to what were deemed to be the secure government bond markets of the US, Germany and the UK.

However, in recent weeks fears about the European debt crisis have eased, which has seen a rally in the euro and some the eurozone's weakest members have been able to raise short-term funds from capital markets.

This has resulted in yields on safe haven bonds rising.

Rothschild's head of investments Dirk Wiedmann sees this as justification for its bearish stance on government bonds. Wiedmann said: 'In our view government bonds are not an attractive safe haven. The fundamentals are shaky, supply is high and valuations look rich. Current yields are far from compelling and may creep higher. Government bonds would only be attractive if the world economy were to enter a slump and experience Japanese style deflation and we do not think this is likely.

Wiedmann also said the yield on government bonds is less attractive when measured against major equity markets.

'(government bond) Comparisons with other asset classes are also unfavourable: for example, eurozone equities (measured by the DJ Stoxx 600) Swiss equities (SMI) annd UK equities (FTSE 100) and Japanese equities (Topix 100) are all currently showing an estimated dividend yield higher than the yield on the equivalent domestic 10-year government bond.'

Rothschild believes corporate represent much better value than their government bond counterparts. It said: 'We believe demand for high quality corporate bonds should remain healthy and that these securities will be well supported. Current spreads on high yield and investment grade financial issuers are pricing in a fair amount of bad news and corporate bonds offer the prospect of much higher returns than money markets,' said Wiedmann. 

Equities may be cheap but remain unattractive

In other major asset allocation calls Rothschild remains underweight equities, believing there are a number of problems brewing in the asset class.