The strategic power of security-selection alpha

In our view, fixed income expected returns are lining up to be quite decent in 2026 but are no longer remarkable, primarily because the 'Goldilocks' macro regime is over. Indeed, the current macro and market environment is less supportive of fixed income, in large part due to a more complicated duration landscape and a challenging spread valuation backdrop.

In many parts of the world, central banks are no longer easing. Even in the US, the bar is fairly high for the Fed to deliver more cuts than are currently priced in by the rates market. In the absence of aggressive policy easing, duration is therefore unlikely to be a major contributor to total returns. In addition, credit spreads are tight in many markets.

As a result, we believe that there is limited space for further spread compression, though we are not necessarily calling for a spread correction in the period ahead. In fact, our baseline scenario calls for stable spreads, helped by a robust macro backdrop and solid credit fundamentals, though we do not expect this alone to drive total returns.

This leaves us with income as a main driver of global fixed income returns, supported by total yields that remain attractive by historical standards (see Figure 1). Looking at the Bloomberg Global Aggregate Index (Global Agg), its yield is currently around 3.45%, producing a 10-year z-score¹ of 1.05 in our valuation analysis-a level that is quite attractive relative to history.

From a portfolio-construction perspective, this shift matters because the 'easy' sources of beta are becoming less reliable at the margin. When policy rates are no longer trending steadily lower, the distribution of outcomes for duration widens and rate volatility can potentially rise. Indeed, modest changes in inflation momentum, fiscal expectations, or term premium can translate into meaningful rate moves. At the same time, when spreads are already tight, carry remains appealing but the cushion against idiosyncratic shocks is thinner, making downside asymmetry more relevant.

This combination tends to reward disciplined risk budgeting and careful security selection prioritising bonds where investors are being paid for specific, identifiable risks (liquidity, structure, sector, or issuer fundamentals) rather than relying on broad market repricing. Put differently, as macro uncertainty rises and valuations look less forgiving, the value of being selective increases because small differences in entry point, credit quality, and balance-sheet resilience can have an outsized impact on realised returns.

As fixed income beta returns diminish, alpha may play a bigger role in generating returns. In recent months, we have seen the alpha generated by active asset managers rise above the Global Agg's long-term average of 91 basis points (see Figure 2). The current market environment of complexity and macro volatility, along with a focus on diversification and risk management, is creating opportunities for active asset managers to potentially generate higher excess returns. In turn, this alpha is likely to represent a larger share of total returns.

Together, factors such as fundamental mispricing, greater differentiation, and the emergence of 'winners' and 'losers' create a more favourable market environment for active managers. The spread dispersion within the Global Agg is the tightest it has been in many years, which means that there is a greater premium on the quality of the active manager, especially when it comes to security selection (see Figure 3).

Strategically, security-selection alpha appears to offer attractive characteristics

For a start, selecting a global active manager that primarily relies on security selection may offer some style diversification. Based on eVestment data, we have identified two distinct global fixed income peer groups. The first is active managers that cite security selection as their largest source of alpha (peer group 1). The second is the rest, that is, those whose self-reported largest source of alpha is not security selection (peer group 2).

What is striking is that peer group 1 represents a minority in the community of active Global Agg mandates.