Investment Strategies

The Fixed Income Outlook is Compelling

8/11/2024

Mohit Mittal, Kenneth Chambers

Investors reviewing their portfolio allocations as we close out 2024 should note fixed income is poised to play a significant role in 2025.

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Text on screen: Ken Chambers, Fixed Income Strategist

Chambers: The Federal Reserve and most central banks globally raised rates to policy levels we haven't seen in many decades. Now, many have started that easing cycle. Let's just start with what does it mean for the asset class moving forward today?

Text on screen: Mohit Mittal, CIO Core Strategies

Mohit Mittal: Sure. Thanks, Ken. Look, we have had a generational reset higher in yields following the inflation scare of 2021 and 2022. What that meant was a significant value got created in fixed income. Now, as central banks are embarking on a rate cutting cycle, it's a really attractive opportunity for investors to capitalize on those higher yields.

So now when we look at fixed income, there are three reasons that make it stand out right now.

FULL PAGE GRAPHIC TITLE: Re-thinking Fixed Income in 2025, LIST - 1. Yields remain close to multi-decade highs, Abundant global fixed income opportunities, 2. Diversification benefits
Inverse correlation between equities and bonds is reasserting itself

The first is the starting level of yields. When we look at it versus a ten-year history, the starting level of yields still look quite attractive. So really good reason from a yield perspective. The second is associated with the return of the inverse correlation. Historically, fixed income has been viewed as inversely correlated asset to risk assets like equities.

2022 started to change that perception because both fixed income and equities had negative returns. However, the key point here is that, that correlation is a function of inflation.

When inflation starts to come down towards central bank's target, which is where we are near two point something percent inflation and the starting level of rates are where they are. Fixed income becomes very negatively correlated to risk assets.

And then the third aspect is the opportunity for capital appreciation there is a scenario where growth surprises to the downside. If that was to happen, then the central banks can cut rates much lower than neutral, given the starting point of rates being above neutral right now.

So the rates can be brought down meaningfully below neutral, that can create a meaningfully higher total return potential in fixed income.

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So net, I'm quite excited about the opportunity set in fixed income because of starting yields, because of return of inverse correlation, because of opportunities for capital appreciation, but then also because of the volatility and overshoots that it is creating for active adjustment and adding alpha in fixed income portfolios.

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Disclosures

Past performance is not a guarantee or a reliable indicator of future results.

All investments contain risk and may lose value. Investing in the bond market is subject to risks, including market, interest rate, issuer, credit, inflation risk, and liquidity risk. The value of most bonds and bond strategies are impacted by changes in interest rates. Bonds and bond strategies with longer durations tend to be more sensitive and volatile than those with shorter durations; bond prices generally fall as interest rates rise, and low interest rate environments increase this risk. Reductions in bond counterparty capacity may contribute to decreased market liquidity and increased price volatility. Bond investments may be worth more or less than the original cost when redeemed. Diversification does not ensure against loss.

Statements concerning financial market trends or portfolio strategies are based on current market conditions, which will fluctuate. There is no guarantee that these investment strategies will work under all market conditions or are appropriate for all investors and each investor should evaluate their ability to invest for the long term, especially during periods of downturn in the market. Investors should consult their investment professional prior to making an investment decision. Outlook and strategies are subject to change without notice.

Alpha is a measure of performance on a risk-adjusted basis calculated by comparing the volatility (price risk) of a portfolio vs. its risk-adjusted performance to a benchmark index; the excess return relative to the benchmark is alpha. Correlation is a statistical measure of how two securities move in relation to each other. The correlation of various indexes or securities against one another or against inflation is based upon data over a certain time period. These correlations may vary substantially in the future or over different time periods that can result in greater volatility.

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