Equities have had a strong run so far this year, but with interest rates having fallen so dramatically in the last month or so, how should investors be positioning their fixed income portfolios?
Some investors, concerned that lower interest rates mean a global recession, will be thinking about taking a more conservative approach to fixed income. We don’t agree with this and believe it is wrong to avoid either high yield or more aggressive fixed income like emerging markets. Since the financial crisis, many investors have been too conservative, focusing on short-term and high quality income vehicles. It felt comfortable, but left a lot of return on the table. In the current environment, we believe that investors should consider whether they have enough risk, both credit risk and duration risk, in their fixed income portfolios.
China’s Okay, So Why Exit Credit?
Although U.S. fundamentals are important, investors should not forget China. The Chinese government has been stimulating its economy since last summer and continues to push growth. The results can be seen in the country’s Purchasing Managers’ Index (PMI) releases. (See the regularly updated How is China’s Economy Doing?)
While the government is concerned about its trade dispute with the U.S., we believe the country is “okay” and that we are not heading toward a global recession. With this in mind, and despite a slowdown in Europe, we see no reason why investors should either get out of credit or overly de-risk their fixed income portfolios.
Find That Yield
As investors look at where they can find yield, we think U.S. high yield offers a potential opportunity. We believe, however, that there is no value in the short end of the curve with yields of 1% or thereabouts, so we think investors should get out of it entirely. We believe high yield and emerging markets are where investors can still get a nice yield.
If investors are feeling super-conservative, floating rates may present a good option. The VanEck Vectors® Investment Grade Floating Rate ETF (FLTR®) provides exposure to U.S. dollar denominated floating rate notes issued by corporate issuers and rated investment grade. With floating rate notes, investors may get a yield of almost 3%.
Outlook Through the Rest of 2019
Equities may be up 19% on the year so far, but earnings are not growing that much and a big positive, new surprise for equities seems unlikely in our opinion. This is why we are suggesting that investors look at their fixed income investments and make sure that they can get some nice returns out of that part of their portfolios.
For investors looking to diversify, we focus on gold as the big diversifier. Gold has just broken out of a six-year technical top, making it look very attractive. We think that, with the huge amount, approximately $12 trillion, of negative yielding, fixed income debt now outstanding, the current gold rally may last for years, not just months.
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