I was pleased to join the IMAP Independent Thought Conference last Thursday in Melbourne as a panelist alongside Dale Pereira and Laurice Considine from Pendal Group. It was an insightful session on managing the challenges in today’s fixed income markets, as we explored how to navigate fixed income assets in an environment of uncertain inflation.
Optimising Fixed Income Investments Amid a Changing Rate Cycle
The interest rate cycle is beginning to shift, with the US Federal Reserve anticipated to make its first cut in September, potentially followed by other central banks. While Australia is expected to maintain its current rates through the rest of 2024, the next three to six months could be the toughest the Australian economy has faced in some time as the full impact of those rate hikes finally takes effect. With household savings dwindling, wage growth slowing, and global economic pressures mounting, it’s crucial to consider how best to manage investment portfolios in a changing rate cycle.
At Real Asset Management (RAM), we believe that with the potential transition from tightening to easing on the horizon, there is a compelling case for making strategic adjustments to optimise your fixed income investments.
Positioning for the Easing Cycle
Yields are at their most attractive point in 15 years, and with the view that an easing cycle is approaching, we have been progressively adding to our duration positioning due to both the more attractive value on offer – Australian government bond yields are above 4% – and our view that rates are likely to fall, benefiting from some attractive fixed rate exposure.
However, managing fixed income in this environment requires careful consideration of credit risks. As rates remain high, the likelihood of further economic challenges grows. To mitigate these risks, we continue to favour floating rate credit, particularly in subordinated debt and capital securities from very high-quality banks. These securities offer attractive yields in the 6.5-7.5% range and are expected to provide stability as we navigate potential volatility in the months ahead.
Managing Risk in Fixed Income
The biggest risks in fixed income investing—default risk and illiquidity—must be carefully managed, particularly as we approach the tail-end of the rates cycle. Our advice is to keep things simple, focusing on quality income streams within transparent investment-grade portfolios. If the structure of a fund or security is unclear, it’s often best to steer clear.
Numerous academic studies have shown a clear link between ESG factors and investment risks and returns; therefore, we emphasise the importance of strong risk management, particularly focusing on ESG risks and disclosures in our investment process. The RAM Diversified Fixed Income & Credit SMA has been certified by the Responsible Investment Association Australasia (RIAA) according to strict disclosure practices required under the Responsible Investment Certification Program, and we score issuers on a range of metrics, with several specifically related to ESG factors.
As we move through this challenging period, our goal at RAM is to continue delivering stable and consistent returns for our investors. By maintaining a disciplined, diversified approach, we are well-positioned to navigate the complexities of the current environment.
The income stream within the RAM portfolio remains robust, with high levels of absolute yields available. The RAM Diversified Fixed Interest & Credit strategy has successfully met its investment objectives for income and stability, delivering a 7% return, including imputation credits, before fees for the full year.
I recently had the opportunity to discuss this topic in more detail with Livewire. If you’d like to read the full article, please click here: “The next few months are going to be painful for Australians. Here’s how you can invest your way out of it”
Sincerely,
Michael Frearson, CFA
Director, Head of Fixed Income
About the RAM Australian Diversified Fixed Income & Credit Strategy
The RAM Australian Diversified Fixed Income & Credit SMA is a diversified portfolio blending a range of security types and structures ranging from government bonds through to complex hybrid subordinated securities.
- Actively manage income portfolio aimed to deliver a tax effective yield at a premium to cash with moderate levels of capital volatility
- Predominantly floating rate, with regular distributions
- Strong focus on risk management at the portfolio and security specific level
- Strong track record with attractive risk-adjusted returns in a range of market conditions due to defensive style
