The central bank that deserves the most attention in the next month or two is the European Central Bank. The ECB is still pursuing quantitative easing (QE), with monthly purchases of €60 billion of government and corporate bonds. However, its commitment to buy bonds runs out in December, and the ECB will probably announce in October or November its QE plans for 2018. While it is possible that the ECB could simply stop purchasing bonds after December, we think it more likely that the monthly amount will be gradually reduced before it is finally halted. European economic growth has improved sufficiently that the extraordinary monetary stimulus provided by QE is no longer needed, but low inflation will allow the ECB to be cautious about ending it.

From a strategic perspective, we are keeping portfolio durations shorter than benchmarks, because we believe bond yields over the next several months will be rising. Quantitative easing in the last several years by the Fed, the ECB, and other global central banks has had a major downward impact on bond yields. As the various QE programmes unwind, we expect bond yields to gradually rise to more “normal” levels. We continue to overweight the corporate sector, but are increasingly cautious because the narrowing of yield spreads has made the risk/return trade-off less favourable. The spreads are relatively tight, but could narrow somewhat further based on the experience of 2005 and 2006.

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