Investors should hold the line on fixed income despite interest rate rises …
Investors should remember the lessons of the financial downturn and not let recent market surges obscure the fundamentals of diversified portfolio construction, according to Vanguard Investments Australia (Vanguard) Head of Fixed Interest & Investment Solutions, Roger McIntosh.
While the recent sharemarket rally has piqued strong investor interest and enticed many back into equity markets, Mr McIntosh said investors should keep their eye on the long term and remember the importance of diversification – irrespective of their investment style.
“Asset allocation is a primary driver of risk and returns. Risk perception and how investors allocate their assets is the most important decision they can make and this is the real lesson learned from the global financial crisis,” Mr McIntosh said.
“Whether they are pursuing an active or passive strategy, allocations should consist of a blend of asset types, including fixed interest, an asset class that many investors overlooked – and then suffered for – in the rush to equities in the last boom.”
Mr McIntosh says it is especially important to maintain diversification when market conditions seem to call investors the other way.
“Past performance may be no guarantee of future performance but it certainly is a good indicator of investor behaviour. Being able to hold your line and maintain a long term strategy is the cornerstone of successful investing,” he said.
“The current rising interest rate environment is a case in point. While this typically means lower returns for fixed income products, it is all just part of the ebb and flow of the markets. Investors still need to be thinking long term and maintaining a suitable portion of their portfolio in fixed income.”
“Returns from fixed income investments can reduce portfolio losses during periods of equity market downturns as well as offering other benefits such as capital stability and income,” he said.
“This is not to say one should take a simplistic view of the fixed income environment, which is complex and diverse in itself. Asset allocation and diversification within the fixed income class is also important and close scrutiny of what is on offer is necessary.”
Mr McIntosh cited some of the so-called ‘bond’ products that were on offer during the global financial crisis as examples that should send an ‘investor beware’ message.
“Some of the instruments that promise higher yields – such as hybrids, certain securitised assets and sub investment grade debt – may contain equity-like risk that generates returns through greater credit risk and leverage.” he said.
“Investors would be well advised to look instead to bond products with high quality assets of the type that performed well during the financial crisis. Investors should also focus on products that provide good liquidity and lower fees.”
Some benefits of fixed interest
Income and capital stability: a fixed interest allocation to investment grade bonds reduces the likelihood of default and provides a high certainty of income.
Liquidity: higher quality fixed interest assets can be readily bought and sold, giving investors certainty that they have the option to realise their investment quickly if needed.
Diversification to equity risk: exposure to fixed interest assets can reduce overall portfolio risk and help offset the volatility of equity asset allocations.
Source: ETFWorld.com – Vanguard Investments Australia Ltd