Bond yields continue to fall and it is time to let old habits die. With the proper strategy, however, the asset class could also play an important role in the future, says Sven Langenhan, Portfolio Director Fixed Income at Flossbach von Storch AG.
Interest rates are likely starting to cause concern for some investors. The yields on what are considered to be safe bonds are deep in negative territory. The risk premiums on poor quality bonds also recently recorded a significant drop. Here is a summary of the current situation:
In our view, this summary, which is certainly incomplete, shows one thing in particular. Investors who hold good quality bonds in their portfolios until maturity “just simply” to collect the annual coupon are suffering losses in the real value of their assets. Years ago, these bonds stood for “risk-free returns”. This changed as a result of the historical low level of interest rates, with “buy and hold” quickly coming to stand for “return-free risk”. And now the end result of this strategy is a “guaranteed loss”. This also applies to passive bond investments, such as ETFs, which only track the market without actively trading in individual securities. According to a study by the Flossbach von Storch Research Institute, active bond managers were already able to achieve higher returns than their passive counterparts when the level of interest rates was significantly higher. Bond investors have no reason for resignation. In our view, bonds can still be attractive if a flexible, truly active strategy is used that takes advantage of all the return opportunities available in the almost EUR 80 trillion global bond market. Market movements can be opportunistically used, for example, such as when many investors move in the same direction. The asset class continues to offer a great many possibilities for active investors. They can choose between different maturities, debtor priorities, currency areas and interest rate areas, and can also actively manage portfolio duration. In addition, the active use of futures and derivatives can stabilise portfolio value and offer opportunities to generate returns. We feel that bonds continue to play an important role in preserving and increasing portfolio value over the long term. At least for those with a clear, business-oriented investment philosophy who are in a position to actively take advantage of opportunities that arise.