The role of bonds in a balanced portfolio

This article is part of
Guide to Bonds

Mr Cheeseman says: “In the first days of the sell-off, all anyone wanted was cash, and even the government bond market was buckling under the weight of people trying to raise cash. It was when central banks stepped in that government bonds began to perform better.”

He says that in a typical multi-asset portfolio, “I think there will always be a place for government bonds, due to the diversification that you get. The point of a multi-asset portfolio is to have assets that perform differently to each other, and that is what government bonds continue to do.” 

Central banks have also been buying corporate bonds, and the effect of this has been seen across the bond market with prices also rising for most corporate bonds.

Bond yields

Mark Preskett, multi-asset investor at Morningstar Investment Management says the first thing to understand about bonds is that the yield on the bond at the time the purchase happens is the major determinant of what the returns will be in future, and with bond prices already very high, even if the diversification effects remain as potent in years to come as they proved to be in March. 

He says that to achieve the diversification “investors are just going to have to stomach the low yields.”

Aviva Investors bond fund manager James Vokins says that “equity investors have not been able to believe how low the yields had gone on bonds", but with  central bank intervention and low levels of economic growth forecast for the foreseeable future, “bond yields can always go lower.”

Bond yields move inversely to bond prices, so lower yields mean the price is rising. The higher price is positive for investors whose priority is capital gain, but negative for those who want income.

Bob Tannahill, multi-asset portfolio manager at wealth management Ravenscroft says he continues to use bonds in multi-asset portfolios for clients, but believes that corporate bonds, while having a higher yield than government bonds, were shown in the sell-off in March to be much less liquid. 

He says: “We will continue to use bonds in balanced portfolios, but we have to be realistic about what you are buying today.

"Liquidity cannot be assumed in the same way it was before the global financial crisis and this was hammered home in March. So in building a balanced portfolio today, if you need liquidity in the toughest of periods then you probably need to think about assets other than corporate bonds such as short-dated government bonds or cash.

"Here again, however, we have to be realistic on pricing.