Bond and credit specialists overseeing more than a quarter of the $40 trillion U.S. fixed-income market have spoken: JPMorgan Chase & Co. is still No. 1 in research.
Based on 1,900 survey responses, the bank extended its reign for a ninth year in Institutional Investor’s 2018 All-America Fixed-Income Research Team, leading a pack of providers that is virtually unchanged from 2017. Each of the top five firms earned roughly the same number of team positions as last year with the exception of second place finisher Bank of America Merrill Lynch, which improved from 41 to 46 and edged closer to JPMorgan’s 52 ranked analysts.
Survey respondents selected the top firms across three categories – high yield, investment grade, and economics and strategy categories – comprising 61 total investment sectors.
JPMorgan, which also topped the economics and strategy category, noted an evolution in its approach to research, including the application of quantitative tools and artificial intelligence on top of traditional models. “We have expanded into more advanced quantitative methods, including machine learning, and have written a number of reports across fixed income that leverage this capability,” said Matthew Jozoff, global head of JPMorgan’s developed market rates, securitized products, and public finance research. “We believe this quantitative approach is a real area for growth in research and will continue to provide our clients with insights based on these techniques.”
BofA Merrill Lynch – which unseated JPMorgan for first-place position in the high-yield category – has also embraced machine learning models and data visualization software in its reports, according to Michael Maras, the firm’s head of global credit research, who sees the confluence of technology and regulations like the second Markets in Financial Instruments Directive ushering in a new world for institutional investors and their providers.
“Technological changes, new regulation, and margin compression on the buy-side are bound to impact the quantity of research consumed by our clients,” Maras said. “Institutional investors who are facing multiple demands on their budgets will focus on a smaller list of research providers that will combine global cross-asset class banks with a number of smaller research providers who offer a high quality niche product, i.e. regional/sector specialists.”
Mirroring their 2017 finishes, Wells Fargo, Barclays, and Citi rounded out II’s top five research firms, at a time when industry experts are cautiously watching the second half of the year after the past 12 months of lower volatility in the fixed-income markets.
“We believe that central banks have been very successful communicators of their [quantitative easing] exit plans and their potential path of monetary policy, and the major economies have performed in line with expectations,” Maras said. “Good forward guidance on monetary policy and stable global growth have been instrumental in contributing to the lower volatility environment.”
Fixed-income markets continued to produce good returns up to the end of 2017 off the strength of investor fund inflows and good corporate fundamentals, which he said supported a consensus call of a stronger U.S. dollar in 2018. But Maras added that significant changes have already altered the investment landscape for the second half of the year, including a slowdown in bond inflows and the building trade war between the U.S. and the rest of the world.
Alex Roever, head of U.S. rates strategy at JPMorgan, said markets have so far “looked past much of the political and trade noise,” focusing primarily on policy changes that have already been enacted.
“In terms of positioning, short duration and short credit trades have paid off in the first half of this year, as tax reform and deficit growth have boosted Treasury supply and pushed up U.S. interest rates,” he added. “We believe most fixed-income sectors have repriced to reflect the greater risks ahead, with the possible exception of high yield.”
Roever’s colleauge Jozoff noted that clients are concerned about the yield curve, which is at its flattest since 2007, causing some investors to worry about future recession risk. “We expect the curve to flatten further in the second half of the year, though we’re not calling for a recession yet,” Jozoff said.
Meanwhile, the reform of interest rate benchmarks is creating some uncertainty for investors who are transitioning to a new index as LIBOR recedes as the central benchmark in fixed-income markets. “While SOFR” – the U.S. Federal Reserve’s new LIBOR alternative – “has launched, markets have been slow to embrace it,” Roever said. “However, the extreme widening experienced in LIBOR-OIS basis earlier this year highlighted ongoing functional issues with that index.”
This regulatory environment has banks re-evaluating their research product and services, said Maras. Recent sales of bond index platforms to financial data specialist firms – such as Barclays selling its index business to Bloomberg in 2016 and the Intercontinental Exchange acquiring BofA Merrill Lynch’s index platform last year – illustrate these rising compliance and operational costs.
And banks and dealers will continue to remain the regulatory focus In the fixed-income markets, according to Roever. “It’s systemically safer than it was a decade ago, but competitively it is a much more challenging environment.”