Duration risk
Then there is duration: inflation is already threatening to erode returns in the UK, with forecasts of 3 per cent CPI by the end of 2017. This way outstrips the 0.1 per cent yield available on a two-year UK gilt (as at 5 June).
But also compare this with the yield on a 10-year UK gilt of 1.05 per cent – is it worth holding such bonds for any length of time given the propensity of the yield to be eaten away by inflation? And what happens when interest rates rise over time?
Just because the bank base rate has been at a record low in the UK since 2009, the days of 15 per cent interest rates, as seen in the early 1990s, is still etched into many investors’ memories.
Mr Leyland observes: “We have worked diligently with our manager partners to ensure they are comfortable with taking credit risk and managing duration to restrict sensitivity to changes in the general level of interest rates across the funds and models.”
This is one reason why maintaining a short duration on part, or even all, of a portfolio is helpful if the client’s main concern is to have a steady income stream in the near future that is outstripping the pace of inflation.
Stable, not stunning
For many fixed income managers and advisers managing portfolios for clients, bond yield is not about shooting the lights out or aiming for a stunning yield, but about sustainability, given all the various concerns.
Mr Leyland says: “Our partners are not reaching up [the risk curve] for yield and, in fact, we have seen model portfolio yields decline slightly as a result of deliberately pursuing a sustainable income strategy.
“We believe this is the right mix between having a level of yield that is attractive for income investors and the ability to deliver income sustainably.”
Chris Iggo, chief investment officer for AXA Investment Managers, says: “In times like today, when yields are low and volatility is low, it is perhaps important to remind oneself that income cannot be created out of nothing, and strategies that promise higher levels of income necessarily need to take more risk.
“That said, in the long-term it is just as important to focus on avoiding the big losses than making the higher return.”
simoney.kyriakou@ft.com
