Some risks better than others
By David McLeish, Senior Portfolio Manager, Fixed Interest
06 October, 2016
We all know that investing involves taking calculated risks.
There is, rightly, a lot of emphasis placed on ensuring that in pursuing their investment goals; investors not only understand the risks associated with their investments but that they find those risks acceptable.
In today’s low deposit rate world, it can be tempting to straddle the extreme ends of the risk spectrum, combining cash at one end as the ‘safe bet’ and equities at the other to give higher returns, albeit with higher risk. This strategy can however put your long term investment goals in jeopardy.
It is important to understand the full range of investment options available to you.
While most understand the characteristics of term deposits and equities, less is known about fixed income investments that typically sit in between these two on the risk spectrum. It is here that we can find investments that may prove interesting in the current environment.
Independent research conducted by global asset managers, Alliance Bernstein and Wellington Asset Management, showed that investing in high-quality, low-duration bonds might be the ‘Goldilocks’ investment for those wanting to take a more considered approach to investing.
Why are these assets so interesting right now?
A lot has to do with duration, a measure of a bond’s sensitivity to changes in interest rates. In general, when interest rates rise, bond prices fall. By choosing bonds that have less chance of materially falling in value should interest rates rise, the income they generate can be more easily relied on.
As for the high-quality aspect, that has more to do with where we are in the economic cycle. If we are in the late stages of this current expansion, as the two managers suspect, reaching for higher returns from lower quality bonds could prove dangerous, as company defaults may rise.
How investors choose to balance risk and return will of course vary depending on individual needs and comfort levels. But in today’s volatile markets, it pays to be aware of all of your investment options.