Debunking the Myth
Fixed income is an important ingredient for a well-diversified portfolio regardless of an individual’s stage of life, as it may enhance overall risk-adjusted portfolio returns and potentially lower portfolio volatility during difficult market periods. However, the make-up of fixed income exposure in a portfolio doesn’t need to be solely in those fixed income investments typically associated with near retirement or retirement, such as investment grade corporate debt or US Treasuries.
Investments in relatively higher risk sub-asset classes within fixed income can potentially contribute to higher compounded returns during an investor’s accumulation, or growth, phase also. For instance, investors can consider incorporating into their fixed income allocation:
High yield bonds, which historically have equity-like characteristics and correlation, but typically provide higher current income than investment grade corporate debt or Treasuries.
Emerging market debt, which offers the potential for above-average yields, along with the potential for capital appreciation as credit rating status improves or local currencies strengthen against the US dollar.
Bank loans, which carry higher yields (and risk) than investment grade debt, and typically come with floating rate structures that may better retain value in a rising rate environment. Since they are ‘senior’ notes, bank loans occupy a high position on the creditor priority ladder, providing some protection in case of bankruptcy. They are, on the other hand, relatively less liquid instruments and may carry illiquidity risk.
Fixed income assets can offer better risk-adjusted return than equities during periods of market weakness
Source: Bloomberg, September 30, 2019. US High Yield is represented by the Barclay US High Yield index, Loans are represented by the Credit Suisse Leveraged Loan index, Emerging market debt is represented by the JP Morgan EMBI Global Diversified index, Core fixed income is represented by the Barclays US Aggregate Bond index, Equities are represented by the S&P 500 index. For illustrative purposes only. Investors cannot invest directly in an index.Past performance is no guarantee of future results. The chart shows three-year rolling sharpe ratios, a risk-adjusted measure of reward per unit of risk. The higher the Sharpe Ratio, the better.