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Walking the line between risk and no-reward

Gregor Watt on how retail investors are moving out of fixed income but corporate bonds still offer balance. Meanwhile, below: two fund managers give their outlook for investment grade credit in the face of low yields

Last week’s figures from the Investment Management Association confirmed a trend that advisers have been seeing for some months – that investors are increasingly shunning fixed income in favour of equities.

The IMA figures show that February saw net retail sales of £1.3bn, the highest level since April 2012, but while equity funds took the lion’s share of inflows with £940m

of net sales, fixed-income funds saw the second consecutive month of net outflows, with £163m of net outflows for the month.

It is easy to see why investors are behaving the way they are. With inflation remaining stubbornly above the target level of 2 per cent, investors are choosing to take more investment risk in order to see a positive real return and with the FTSE 100 up by 10 per cent for the first three months of this year, investors may have been reminded that inflation is a risk that needs to be addressed in addition to market volatility.

As Investec Asset Management portfolio manager and multi-asset team strategist Max King puts it: “With interest rates in developed markets near to zero, government bond yields close to multi-century lows and the spreads of high-grade corporate bonds

over government issues now at low levels, investors have little choice but to shy away from ‘low-risk’ investments.

“Fund flow data suggests that investors are starting to get the message.”

The fact that quantitative easing remains on the table for policy makers in the UK and other developed economies could mean that bond yields remain low and with retail money pushing equity valuations higher has convinced some multi-asset managers continue to favour equities over fixed income.

If gilts offer low returns, the other end of the risk spectrum for fixed income is not looking too attractive either as high- yield bonds are not offering the returns necessary to offset the risks involved.

Aberdeen Asset Management European high yield portfolio manager Ben Pakenham says: “There has been much talk recently of a bubble emerging in the high-yield space. As is the case for much of the fixed-income universe, both sovereign

and corporate names, it is certainly true that investors’ thirst for income has pushed up the prices of so-called junk bonds.

Benchmark returns last year ranged between 25-30 per cent so a pause for breath, at least, would be welcome.

“Valuations have shifted meaningfully over the last 15 months so it is sensible portfolio management to reduce risk. We have continued to cut our exposure to lower rated bonds. But a case can still be made for high yield to be part of a diversified portfolio, particularly one with a need for income.”

Fidelity Strategic Bond fund portfolio manager Ian Spreadbury says for now he is happy to opt for the middle ground between low yields offered by gilts and the added risk of high-yield bonds.

Spreadbury says: “The bulk of the fund remains in investment grade credit and I continue to add to opportunities in this space. There is around a 20 per cent allocation to high-yield bonds. This has been built from bottom-up bond selection and is well diversified across more than 70 issuers. The remainder is invested in a solid core of cash and liquid government and supranational bonds.

“Investment grade corporate bonds remain attractively priced when compared to UK gilts that are trading at very low yields.”


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