Solutions chart update: A balanced diet of OATs, AAPL and bundwurst?

French government bonds (including OATs), German government bonds (including bunds) and European corporate bonds (including AAPL[1]). For European investors in particular, yield has well and truly returned[2]. 30-year German yields are over 3%, 30-year French yields are over 4%, European IG corporate bond indices are somewhere between 3% and 4% (depending on your index maturity of choice).

Although institutional investors’ strategic circumstances are different it is a common theme to be looking at fixed income allocations whether that is driven by a desire for cashflows, a wish for yield, general derisking or a bit of everything!

An interesting question is how to consider a public fixed income allocation and the balance between sovereign credit risk and more ‘traditional’ corporate bond credit risk. What do I mean by this? A helpful way of considering this risk, which is typically mostly mark-to-market, is by considering the sovereign yield and credit yield relative to ‘risk-free’ swaps.

The chart below shows a simplified version of this by focussing on France (‘riskier’ sovereign proxy), Germany (‘safer’ sovereign proxy) and the iBoxx Euro Corporates index - all shown relative to swaps:

Not all credit risk is created equal! Even in a relatively short history, the chart highlights that some macro events are most painful for credit, some can impact both credit and sovereigns while at other times we see idiosyncratic sovereign credit risk with less impact on corporate bond spreads.

Quantifying this to arrive at ‘optimised’ portfolio weights would be very assumption-driven but we can observe in the data and to an extent see in the chart:

• Credit spreads are typically more volatile than sovereign spreads (on average you could say about 2x depending on time horizon)
• France exhibits some modest correlation with euro corporate bond spreads
• Germany exhibits a more uncorrelated relationship with euro corporate bond spreads

However, typical sovereign allocations have a higher duration than corporate bond allocations. Broadly speaking this can potentially offset the higher credit spread volatility[3]

So, my takeaways (food pun intended) would be that:

• Sovereigns can provide a useful source of excess spread versus swaps
• Think carefully about how your corporate bonds and your sovereign bonds interact and how to balance the relative weights
• Germany is perhaps getting interesting again as a means of generating some carry while also retaining helpful ‘risk-off’ return properties

As is often the case a balanced diet is a nice place to start… 

[1] AAPL, the ticker for Apple, is a relatively small part of the ICE BoFA Euro Corporates Index at 0.14% which puts it slightly higher than number 200 of the 850 tickers – 31 July 2025 source ICE, L&G calcs). For illustrative purposes only. Reference to a particular security is on a historic basis and does not mean that the security is currently held or will be held within an L&G portfolio. The above information does not constitute a recommendation to buy or sell any security.
[2] Yields sourced from LSEG 31 July 2025
[3] in simple terms if sovereign duration is double the credit duration then the volatility of excess returns is about the same. Return volatility ~ spread volatility * duration.