Fidelity: Strat Chat: Rising energy prices put rate hikes back in focus

Rising energy prices and renewed inflation risks have prompted markets to price in further rate hikes across several developed economies. Mike Riddell, Lead Portfolio Manager of the Fidelity Strategic Bond Fund, explains why, while markets may be pricing too much tightening, growing pressure at the long end of bond markets calls for a more selective approach.

Key points

• Higher energy prices and rising inflation expectations have led us to reduce duration. While we believe markets may be pricing too many rate hikes, we see better opportunities at the front end of the curve. 
• Recent inflation data has been relatively benign, but higher oil, gas and electricity prices increase the risk of renewed inflationary pressure. We therefore continue to retain inflation protection, particularly in the US. 
• Credit valuations remain unattractive, with spreads close to historically tight levels despite higher energy prices, government bond volatility and geopolitical uncertainty. We therefore remain cautious on broad credit risk.

Chart of the month

Rates: Duration reduced as inflation risks increase

We reduced overall duration exposure as higher energy prices and rising inflation expectations could lead to further policy tightening.

Duration exposure was reduced across several markets including the US, UK, Italy, Canada and Korea as long-end bond yields in major developed markets moved higher and supply pressures intensified.

We still believe markets are pricing too many hikes across several developed economies, however we now prefer to express this view towards the front end of the curve, through yield-curve steepeners.

Within emerging markets, we took profits in Colombia following strong performance and subsequently exited the remaining Brazil and Mexico rates exposure.

Inflation: Retaining protection against second-round effects

Inflation data has generally behaved better than expected in recent months, helped by well contained food inflation and limited evidence of broader second-round effects.

However, we have become increasingly cautious that markets may be underestimating the inflationary impact of higher energy prices. Brent crude has continued to move higher while gas and electricity prices have also risen sharply.

We therefore continue to retain inflation protection, particularly in the US, where medium-term inflation expectations still appear relatively contained compared with the upside risks from energy and commodity markets.

Currencies: Harvesting EM gains as the backdrop becomes more challenging

We shifted towards a more defensive currency stance by reducing emerging market currency exposure as market volatility increased the risk of a stronger US dollar.

We booked profits on our remaining Brazilian real position ahead of Brazil's presidential election in October. We also exited our Chilean peso exposure as the currency remains sensitive to rising energy prices.

We retained conviction in the Norwegian krone, Colombian peso and Swiss franc, while maintaining our short Japanese yen position. Meanwhile, we closed our long euro position and reallocated exposure towards the Swedish krona and British pound.

Credit: Valuations remain the constraint

We continue to maintain a cautious stance in credit, as valuations remain unattractive and spreads offer limited compensation should growth or risk sentiment weaken. Despite higher energy prices, government bond volatility and continued geopolitical uncertainty, credit spreads remain close to historically tight levels. We therefore see limited value in adding broad credit risk at current valuations.

Performance

• In August 2026, the fund delivered a gross return of -0.18%, compared with 0.11% for the benchmark. The underperformance was primarily driven by rates positioning, with currency and credit positioning also detracting from relative returns, while favourable inflation positioning contributed positively to performance.
• Rates: Our rates positioning was a primary detractor from relative performance. We had increased our long rates exposure through July, reflecting expectations of a softer US labour market, an easing of the conflict in the Middle East and the view that the substantial number of rate hikes priced into markets presented an attractive valuation opportunity. As the macro backdrop shifted in August, with US labour market indicators improving significantly and the Middle East conflict worsening, we reduced our duration exposure through the month. Overall, the slight overweight duration positioning during the first half of August detracted from performance. Our US rates position remained slightly overweight to neutral and detracted slightly as Fed Chair Kevin Warsh maintained a restrictive monetary policy tone and reinforced the Fed’s commitment to its 2% inflation target. Long positions in AUD, CAD and GBP rates weighed on returns as the Bank of Canada, Reserve Bank of Australia (RBA) and Bank of England (BoE) maintained hawkish stances amid rising inflationary pressures. This was partially offset by gains from short positions in EUR and JPY rates, as expectations for aggressive Bank of Japan (BoJ) policy normalisation moderated, while European rates remained under pressure amid rising energy risks and resilient growth, benefiting our short and front-end curve positioning.
• Currencies: Currency positioning also weighed on returns, led by short positions in GBP, IDR, THB and HUF, alongside long positions in COP and BRL. These losses were partially offset by gains from long positions in NOK, EUR and PYG, as well as short exposure to JPY.
• Credit: The short positions in European and US high yield detracted as spreads tightened in August, partially reversing the widening witnessed in July 2026. US high yield spreads tightened amid supportive corporate earnings and favourable technical conditions, with subdued late-month issuance and healthy investor demand supporting the markets, while European high yield tightening was supported by seasonally subdued primary issuance, available investor cash and resilient corporate earnings despite higher government bond yields.
• Inflation: The long US inflation position supported performance as a sharp rebound in energy prices following renewed US-Iran tensions prompted investors to reassess the outlook for monetary policy.

Past performance does not predict future returns

12-month rolling returns gross of fees, GBP (%) 

Source: Fidelity International, Bloomberg, 31 August 2026. *Performance reflects W Income shares (gross of fees). Ongoing Charges Figure of 0.64% per year applies. **Index and relative returns reflect the Strategic Asset Allocation Blend (ICE BofA Q880 Custom Index) until 01 December 2024 and thereafter Bloomberg Global Aggregate Index Total Return Index Hedged to GBP. Fund inception: 18 April 2005. Performance data is quoted at the fund's official valuation point. Please also note that numbers may not sum exactly to totals shown due to the rounding of figures.

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