Today’s Portfolios “Can’t Get No Satisfaction” From Yesterday’s Instruments
Rick Rieder, Russ Brownback and Trevor Slaven contend that in the tug-of-war between the considerable economic damage stemming from the coronavirus and subsequent lockdowns, and the fiscal and monetary policy responses put in place, the latter factor is being underestimated by markets. Further, the instruments used by investors in previous years won’t be what’s required for the time ahead.
The Beatles, The Rolling Stones, and The Who captured our imagination (as they did much of the world’s) from the ‘60s through the ‘90s. While we still love listening to them today, we can’t help but notice that modern bands use a variety of new instruments. While guitars and drums are still ubiquitous, it’s hard to find a band today that doesn’t also have a MacBook laptop plugged into a DJ controller and a deck of synthesizers to create richer and deeper overtones for their music.
The investment-instrument landscape has evolved similarly over recent decades. When The Who sang “Talkin’ ‘bout my generation,” the portfolios of that generation would have been well served by traditional high-quality fixed income instruments, such as Treasury bonds, but after a forty-year, 1000 basis point rally, the portfolios of today’s generation “…Can’t Get No Satisfaction,” as The Rolling Stones said, with yields on most components of the Bloomberg-Barclays Aggregate index currently below 1%.
With a nod to the Eagles in “The Long Run,” it will be difficult to generate attractive positive real returns from high quality fixed income over a long time horizon, until and unless yields reset meaningfully higher (something we don’t foresee for quite some time). In the meantime, investors will need to employ new instruments – MacBook and synthesizer equivalents – to create the portfolio enhancements necessary to meet income and return targets, while still solving for the myriad market influences that have no historical precedent today.
These secular influences have become even more onerous with the onset of the Covid-19 pandemic, a cataclysmic global economic shock that will result in lingering headwinds to growth and inflation for years to come. But offsetting this is an epic global policy response that has exacerbated the existing dearth of attractive yielding assets, while temporarily removing the real economy left tail risk of an entrenched and deep recession. Unpacking the nuances of these policies and understanding the influences they’ll continue to have on 2020 asset markets is critical in order to identify the new investment instruments that will help our portfolios remain resilient.