With the low interest rate, low growth environment set to be here for a while, where can investors find decent returns on the fixed income side?
With the US Federal Reserve announcing its long-anticipated decision to raise interest rates earlier this week, Canada’s key rate lags its southern neighbour for the first time since 2007. Canada’s economy is still reeling from the hit to oil prices and many Canadian firms are not getting the usual boost from an American recovery. Projections for economic growth in Canada remain gloomy and rather than raise rates in 2017, the Bank of Canada could even cut them further. With the low interest rate, low growth environment set to be a reality for a while; can investors find decent returns on the fixed income side?
“In order to overcome the low government yields that are prevalent in the market place, you have to think about taking on additional risk,” says Aubrey Basdeo, Head of Canadian Fixed Income at BlackRock. “This is what central banks have been forcing investors to do by using quantitative easing as a way to suppress yield, particularly in developed markets.”
Investors are being forced to look to other asset classes in order to get an additional pick up in income. Many are gravitating to investment grade credit, high yield - which has attracted an enormous amount of assets in the past few years - and to a lesser extent, emerging markets.
From an advisor’s perspective, encouraging certain clients to take on more risk to generate returns can be tricky. “In these situations, it’s really important to know your clients and do all of the due diligence around that,” Basdeo says. “For investors who are very concerned by capital preservation, you have no choice but to stick in safe assets, but the income in the fixed portfolio is going to be relatively low for those investors. There is a trade-off between volatility in the portfolio and being compensated with an additional income. That’s where the balancing act comes into play.”
When constructing a portfolio, and putting together an asset mix, advisors should be aware that most Canadian investors like to have most of their assets domiciled in Canada. “So, depending on how much risk the client is willing to take, a certain portion then can be allocated to high yield, investment grade or emerging markets, or a combination of all of those,” Basdeo says. “Having that diversification will help to balance the portfolio’s volatility. You need to analyze the contribution that each sector will give in terms of volatility risk in order to construct a portfolio that meets the client’s needs.”
Basdeo is constantly examining the growth outlook for specific economies – Canada, the US, Japan, China and Europe – in order to make informed decisions about whether to opt for risky or non-risky assets, and to what extent. “At the moment, we think there is potential for growth to surprise to the upside relative to consensus,” he says. “That means we will tilt the portfolio to riskier assets at this point.”
Related stories:
The investment outlook for 2017
Is now the time to shift strategy?
“In order to overcome the low government yields that are prevalent in the market place, you have to think about taking on additional risk,” says Aubrey Basdeo, Head of Canadian Fixed Income at BlackRock. “This is what central banks have been forcing investors to do by using quantitative easing as a way to suppress yield, particularly in developed markets.”
Investors are being forced to look to other asset classes in order to get an additional pick up in income. Many are gravitating to investment grade credit, high yield - which has attracted an enormous amount of assets in the past few years - and to a lesser extent, emerging markets.
From an advisor’s perspective, encouraging certain clients to take on more risk to generate returns can be tricky. “In these situations, it’s really important to know your clients and do all of the due diligence around that,” Basdeo says. “For investors who are very concerned by capital preservation, you have no choice but to stick in safe assets, but the income in the fixed portfolio is going to be relatively low for those investors. There is a trade-off between volatility in the portfolio and being compensated with an additional income. That’s where the balancing act comes into play.”
When constructing a portfolio, and putting together an asset mix, advisors should be aware that most Canadian investors like to have most of their assets domiciled in Canada. “So, depending on how much risk the client is willing to take, a certain portion then can be allocated to high yield, investment grade or emerging markets, or a combination of all of those,” Basdeo says. “Having that diversification will help to balance the portfolio’s volatility. You need to analyze the contribution that each sector will give in terms of volatility risk in order to construct a portfolio that meets the client’s needs.”
Basdeo is constantly examining the growth outlook for specific economies – Canada, the US, Japan, China and Europe – in order to make informed decisions about whether to opt for risky or non-risky assets, and to what extent. “At the moment, we think there is potential for growth to surprise to the upside relative to consensus,” he says. “That means we will tilt the portfolio to riskier assets at this point.”
Related stories:
The investment outlook for 2017
Is now the time to shift strategy?
