High-yield lures the intrepid

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Understanding drivers of change

High-yield lures the intrepid

Years of sluggish growth have seen many investors pile into bonds to provide stable, albeit low, returns, but things appear to be changing.  

The record low interest rate environment following the financial crash appears to have run its course, with Federal Reserve officials hinting they could hike rates three or so times during the course of 2017.

With a rise in interest rates and inflation apparently imminent, return-hungry investors have looked to alternative assets to boost their return.

An exclusive research study conducted by Financial Adviser suggests that advisers have a substantial appetite for these lower credit ratings, otherwise referred to as junk bonds.

Of the 176 advisers with investment permissions surveyed, nearly 88 per cent of the sample stated they would happily recommend a high-yield bond fund if the client fitted the risk profile.

Simon Torry, chartered financial planner at Basildon-based SRC Wealth Management, agrees. He said: “This is unsurprising as securing decent yield in the current investment environment is challenging and traditional products have come under pressure as a result.

“With all of these things, we as advisers have to look at what is under the bonnet of each proposition to make sure we know exactly what we are buying for our clients.

“The potential of a higher return compared with traditional bond investment is a big lure, although the heightened risk is an obvious downside. If we do indeed experience a rise in interest rates, high-yield bonds would come under pressure because the capital value of these products would fall – in theory. If a client is truly looking for income and takes a long-term view, these products could still be suitable in such circumstances.”

This sentiment is somewhat surprising, particularly as just over 56 per cent of the sample claimed their clients are seeking to de-risk their portfolios – as opposed to the almost 44 per cent who said the opposite.

The diversification benefits of accessing bonds through an exchange-traded fund makes the investment vehicle palatable to investors who are keen to shed risk. They also come with the added sweetener of greater tax efficiency – compared to mutual funds – lower operational costs and transparency of ownership.

However, broadly speaking, advisers who took part in the survey erred to the opposing side of the sentiment that ETFs are a good way of accessing bonds funds.

A slightly higher percentage of respondents (about 26 per cent) disagreed with the opinion than agreed, and nearly 8 per cent said they strongly disagreed compared to 4.55 per cent of who strongly agreed.

The lion's share of the sample – some 37 per cent – said they neither agreed or disagreed with the sentiment. This is despite the fact that bond ETFs pay out more frequent coupon payments (usually monthly) to shareholders.

“Regular payments may suit some clients, like those in retirement, but for us, the regularity of payments is not an important factor,” said Martin Cotter, director of Lumin Wealth Management based in St Albans.