When planners look around the investment universe, the return outlook everywhere is grim. But fixed income is a particular problem. Yields on bonds and term deposits have slumped on the back of rate cuts and stimulus. If you invest now and interest rates rise, as many expect, you could face big capital losses.
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Many investors are chasing yield and investing in riskier hybrids. But planners and their clients don’t have to take big risks to get yield and income, even in
this environment.
There are investment options, such as floating-rate notes, which have decent yields, but also protect against interest-rate rises. Planners can also look at more complex managed options, including income and absolute return funds.
And despite low yields, analysts urge planners not to forget bonds’ primary role: a portfolio diversifier.
“Don’t give up on what traditional bond funds bring to the table, and why you have fixed income in the first place,” says Tim Murphy, co-head of fund research at Morningstar Australasia.
CLEAR OBJECTIVES
In this complex investing environment planners need to be clear about their objectives for fixed income. Are they seeking portfolio diversification, or are they looking to generate income?
“Going forward, it’s all about separating those goals,” says Simon Warner, head of macro markets, fixed income, at AMP Capital.
One of the key roles of fixed income has always been diversifying a portfolio: when equities fall or crash, a flight to safety usually sees government bonds rise. But with bond yields so low, and many investors expecting rates to increase, some question whether bonds are in a position to play their traditional diversification/defensive role in a portfolio.
“As the global economy improves, bond yields will drift higher,” Warner says. “That’s fine as long as it’s in line with a better economy and improvements in the value of risk assets such as equities. But we don’t really believe there is a bubble in bonds about to be burst.”
But Warner says that bond investors also need to be clear about which commentary relates to local bonds and which relates to international markets. He, and others, note that in Australia, upward pressure on bond yields is very limited.
“Australia continues to be soft,” Warner says. “It’s reasonable to expect our economy to underperform against what we’re used to as the mining boom peters out. We also don’t think there is a local bond bubble.”
