In a low-yield, late-cycle environment, the right mix of credit securities and government bonds can help fixed-income investors boost income and tame volatility.
As economic cycles enter their later stages, investors sometimes find that they’re taking too much risk to generate income. There’s a strategy that can help—and we think now is the time to use it.
If clients have income needs, then it makes most sense today to look at a balanced approach.
The market has grown less anxious about an imminent wave of bond downgrades. That’s good, because overestimating the risk can lead to missed opportunities. But the risk hasn’t disappeared, making research as important as ever.
The balanced approach to income generation for fixed income has certainly been under challenge. If we look at five-year yields—early September, 180 basis points; today they’re at about 2.8%. So, 100 basis points higher means you’re going to put price pressure on a balanced approach to generating income.
Bond investors get anxious when rates rise suddenly, as Treasury yields have recently. But if your investment horizon is longer than a few months, rising rates are nothing to be afraid of.
Is the end of quantitative easing (QE) a big deal? Might tax reform provide an added boost to the US economy? Should investors brace for more volatility in 2018? Yes, yes and yes.
The volatility bond investors expected when 2017 began never showed up. We suspect it will come out of hiding in 2018. With valuations stretched and monetary policy turning, investors will want to think carefully about which risks they take.
My good friend Ryan is lucky. His parents bought him a one-bedroom apartment in Boston’s once-gritty South End last year. He promptly quit his job and rented out his condo through Air BnB to support a year of travel.
Should tighter monetary policy on both sides of the Atlantic worry bond investors? We don’t think so. Bonds have historically delivered positive returns when interest rates rise—particularly when they rise gradually.
Investors who want to reduce risk and maintain a steady income might consider a barbell strategy that pairs interest rate–sensitive bonds with high-yielding credit assets. But first, it’s important to strike the right balance.
One of the biggest challenges for bond investors today is keeping income flowing without taking too much risk. We think a balanced barbell approach can help.
Rising interest rates. Stretched valuations. Populist politics. These are some of the challenges bond investors face today. They’re also reminders of why it’s so important to manage interest-rate and credit risk in an integrated way.
Rising interest rates make bond investors nervous. But purging your portfolio of interest-rate risk can backfire—even in a rising-rate environment. There’s a better way to balance risk and return.