How moderate risk is likely to perform

This article is part of
Guide to finding yield in 2017

 How moderate risk is likely to perform

Investors have seen high returns from fixed income over the past five years but is this likely to continue?

According to Adrian Hull, senior fixed income product specialist for Kames Capital, there are events on the horizon that could dampen expectations but he believes there is still a case for solid returns from fixed income.

He explains there has been approximately a one-third increase in sensitivity of global bond markets to interest rates over the past five years, most of which has happened in the last two years, and investors have received "extraordinary returns from fixed income markets materially in excess of stable coupons".

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However, he believes this is now over, stating: "As markets have priced the effects of central banks' action, and the deflationary effects of the global financial crisis and euro crisis, expectations of these returns [in the future] are unrealistic.

"But there is a good case to see solid returns from fixed income, and indeed moderate returns," he commented.

Others also believe that while high single-digit to low double-digit yields from moderate-risk, well-diversified fixed income funds may be a thing of the past, investors can still expect to do well out of fixed income. 

George Efstathopoulos, multi-asset portfolio manager for Fidelity International, agrees the days of "good yield for moderate risk are not over in fixed income, although we face a challenging environment".

He explains: "This is the case not only if you compare yield levels before and after the financial crisis, but also if you look at yields today compared with their levels in recent years.

"You could obtain a very attractive income from US high yield a year ago, for example."

Disparity and performance

According to Mr Efstathopoulos, there seems to be a disparity between government yields and credit yields over the past few months.

He comments: "The interesting thing about the recent moves in yields is we have seen tighter spreads as government yields rise, while credit yields remain broadly where they are.

"For fixed income investors, this is possibly the worst of both worlds, with lower yielding debt threatened by inflation, and credit not offering compensation for the risk involved."

But even so, he does not think the days of decent yield in moderate risk fixed income are gone.

Mr Efstathopoulos adds: "There are still areas which offer a good level of yield and which have the potential to outperform."

He lists some of these areas as: 

  • financial debt.
  • local currency emerging market debt.
  • leveraged loans.

And in pure performance terms, UK investors buying bond funds back in 2006 - just as the collateralised debt obligation geniuses at US investment banks were about to precipitate the world into a global debt crisis - will have done spectacularly well over the decade.