Fixed income is an asset class that has a lot demanded of it. It acts as diversifier, defends against inflation and provides liquidity. But with rates so low, how can it achieve all of this and generate some return? A panel of investors at the Fixed Income Forum debated the solution.
Fixed income is a very busy asset class, says Andrew Morgan, portfolio manager at QSuper, and investors are asking a lot of it.
This was confirmed by a survey conducted by Investment Magazine, where fixed income was identified by investors as having seven roles: defensive, diversifier, income, liquidity, capital stability, return seeking and objective aware.
Speaking in a session titled, The scope for fixed income as a defensive asset class, investors and consultants discussed the role of the asset class, and the mechanisms for achieving defensiveness in a low interest rate environment.
“If you ask for all that, how can you possibly achieve it and at the same time generate some return,” said chair of the session, Ben Alexander, principal at Ardea Investment Management.
While Zoran Josic, head of fixed income at Telstra, said: “Rates are very low and we’re looking for alternatives, such as currency. We are squeezing the lemon really hard.”
He added that fixed income was currently overpriced compared to equities.
The investors discussed the different levers within fixed income, which were used on a customised basis depending on the fund’s goals.
Morgan revealed how QSuper’s construction of fixed income is quite different to some other funds, due to most of its 500,000 members looking for retirement income and so the need to avoid large drawdowns.
Morgan said: “When we seek to diversify the portfolio we want to make sure we don’t give away return. In this low interest rate environment investors are looking to pull all of the fixed income levers including interest rates, credit, and inflation.”
“The value of our assets fluctuates, so does our asset allocation. We dynamically adjust fixed income, duration and credit.”
While Telstra Super likes to use traditional benchmarks, QSuper has created its own customised benchmark.
Alexander addressed the question of how to create a portfolio that satisfies what is demanded of fixed income, including the provision of liquidity, low credit risk, low volatility, being negatively correlated with equities and protecting against inflation.
He advocates a portfolio of inflation linked bonds and interest rate options.
“An inflation problem would be a serious shock. Interest rate options are the preferred way to express the view that rates are low.”