Five reasons active adds value in government bonds

Today’s heightened uncertainty, with diverging levels of economic growth, inflation and policy rates, provides active fixed income managers with a significant opportunity to generate returns beyond benchmark investing, as well as to avoid the pitfalls such a febrile environment can generate.

Here are five levers an active manager can pull to take advantage of the current dispersion:

1. A global opportunity set

Today’s global bond markets are characterised by more dispersion than in recent history. Inflation is falling at different speeds, fiscal pressures vary widely, and central banks are at different stages of their policy cycles. By taking a global approach to government bonds, investors may not be reliant on a single interest rate cycle. Global government bond funds allow investors to diversify across both emerging market (EM) and developed market (DM) countries, yield curves and currencies, allowing investors to benefit from differences in inflation dynamics, growth paths and central bank policy. For example, the ability to invest across EMs can offer the opportunity to harvest higher positive real yields, while seeking to avoid many of the problems facing DMs currently; EMs can benefit from lower debt-to-GDP ratios, improved monetary policy credibility and solid growth prospects. As a result, volatility has converged with that of DMs, thanks to these improved fundamentals. 

“By taking a global approach to government bonds, investors may not be reliant on a single interest rate cycle.”

In a world of uneven economic outcomes, that flexibility can be beneficial. In this environment, benchmark investing is a blunt tool – often heavily concentrated in the most indebted issuers, slow to adapt to regime change and frequently including large positions in low yielding bonds, possibly leaving return on the table compared to more selective strategies.

2. The dynamic dividend

Active managers may be able to allocate dynamically across countries and yield curves as policy paths diverge, capturing potential relative value opportunities. In the decade following the financial crisis, DM interest rates were generally low, but this is not the case any longer. Today, different regions are experiencing different prospects, creating market inefficiencies to be captured. With rising concerns over sluggish growth rates and unsustainable government deficits in a number of developed markets, understanding the risks and opportunities of investing across different geographies and different parts of the curve may create an advantage. For example, tapping into the EM universe could provide substantial diversification, with nearly 100 investable counties, many with idiosyncratic growth drivers and improving growth prospects compared to DM, given supportive demographics and the power of domestic consumption. 

3. The power of duration

Actively managed duration could be a key driver of returns as risks shift between inflation persistence and growth slowdown. The uneven path of both inflation and growth has been a tricky one for investors to navigate since the Covid-induced inflationary bout. However, for investors with the capability to pull the duration lever, this is an area of potential outperformance compared to passive vehicles. For example, active bond managers can analyse macroeconomic data and determine their outlook, off the back of which they may choose to reduce or increase interest rate risk as one tool to drive returns beyond the benchmark. Meanwhile, passive bond strategies cannot adjust exposure in this way, instead having to match the interest rate risk of a specific bond index. Passive bond strategies move lower in duration when yields are high and higher in duration when yields are low as a function of ‘bond maths’. This relationship is contrary to what a bond investor may want, where it can be beneficial to have higher duration exposure when yields are high and lower duration exposure when yields are low (bond yields and prices move in opposite directions).

“For investors with the capability to pull the duration lever, this is an area of potential outperformance compared to passive vehicles.”

4. Currency exposure

Another lever at the disposal of the active global government bond manager is currency management. Unlike passive strategies that tend to either fully hedge or leave currencies unhedged, active managers can treat currencies as an independent return and risk lever, informed by macroeconomic fundamentals, valuation, policy divergence and capital flows. By selectively taking long or short currency positions, managers can seek to enhance returns through carry, exploit mispricings driven by cyclical or structural imbalances, and diversify sources of alpha beyond duration and curve positioning. Active currency positioning can also play an important risk management role, helping to offset adverse bond market moves or reduce portfolio volatility during periods of market stress, when currency trends often reflect relative growth and monetary policy differentials more quickly than bond yields.

5. Avoiding pitfalls

Active managers may be able to avoid markets where yields fail to compensate for fiscal or inflation risks and reallocate towards better rewarded markets. Many developed markets are experiencing persistent concerns over rising deficits, with developed market general government debt predicted to increase to 105% of GDP by end-2026, up from 68% of GDP 20 years ago¹. These fiscal sustainability concerns have contributed to a higher premium being priced into these government bonds. Meanwhile, many DM countries are still contending with sticky inflation levels; global core CPI has hovered at around 3% over the last two years. As much as effective investing is about picking the winners, equally important is avoiding the losers. An active manager can be nimble enough to allocate to areas currently providing the most value, while seeking to avoid those where there is inadequate compensation for the multitude of risks out there. For example, while question marks remain over the fiscal sustainability of a number of developed markets, this ignores the opportunity available in the DMs who have observed fiscal discipline, such as Norway, Australia and New Zealand.

With policy rates closer to their peak than their trough, government bonds may offer asymmetric return potential: the opportunity for attractive income today, with scope for capital gains if growth slows, inflation falls and rates come down. Active strategies may be best placed to capture that upside while managing downside risks, adjusting positioning as the macro backdrop evolves.

Flexibility allows active managers to seek better risk-adjusted returns than static, index-hugging approaches – particularly when volatility is elevated and correlations are unstable.

“As much as effective investing is about picking the winners, equally important is avoiding the losers.”

Conclusion

In short, global government bonds offer appeal in today’s macro environment, but active management is key to unlocking their full potential. Higher yields, greater dispersion and increased uncertainty all argue for a flexible, unconstrained approach, making actively managed global government bond funds a compelling building block for portfolios navigating an increasingly complex world.

¹ Fitch Ratings, ‘Developed market government debt to continue rising rapidly in 2026’, (fitchratings.com), January 2026.