Fixed-income strategies are critical in any market environment, but today, with interest rates stubbornly low, institutional investors are seeking yield, which has meant adding risk. The challenge is that investors may find themselves with more risk than they had anticipated. That’s where a multisector credit strategy can play a role. It can provide diversification across the fixed-income landscape with the flexibility needed to access return opportunities while also keeping an eye on risk. Invesco’s Joe Portera, chief investment officer, high-yield and multisector credit, Jennifer Hartviksen, senior portfolio manager, head of global high yield, and Ken Hill, senior portfolio manager, Invesco fixed-income multisector, discuss the goals a multisector credit allocation can help investors reach, and how.
Pensions & Investments: What have the years of historically low interest rates done to institutional asset owners’ fixed-income allocations? Is the problem more acute for, say, corporate pension plans moving to liability-driven investing (LDI) or other risk-transfer strategies?
Joe Portera: Over the past few years, investors have been stretching for yield. You can see this across the allocations of most asset owners, whether insurance companies, pension plans or LDI portfolios. Stepping out into the risk spectrum is fine as long as investors are being rewarded for the level of risk they are taking. There seems to have been a decoupling of the risk/reward concept as asset owners reach for yield in a way that may be too aggressive in the context of the entire portfolio.
P&I: What have they been doing to address this situation? Their portfolio goals, by and large, have not changed.
Portera: Most asset owners have been adding to risk in small increments over the years without realizing how far they’ve gotten. It’s like dipping your toe in the water a few inches at a time, and next thing you know you’re in the ocean up to your middle. So far, this hasn’t hurt much, as most fixed-income asset classes have done well since the financial crisis. But if the market has any kind of violent correction, the pain will be pretty severe.
P&I: In addition to addressing the low interest rate environment, what are some other benefits of employing a multisector credit strategy?
Jennifer Hartviksen: Diversification is one of the biggest benefits. If an investor is able to layer in a few noncorrelated asset classes, the volatility of returns may fall. This is the best way to add risk in a sensible way.
A second benefit is the ability and flexibility to expand into other asset classes to take advantage of temporary dislocations. For example, in 2014 the municipal bond market experienced outflows [that] caused prices to be pushed to extremely low levels. This meant that even without the tax benefit traditionally seen from municipal bonds, the raw yield was very attractive. Due to the flexibility of our structure, we were able to invest 5% of the total portfolio into this asset class, which gave us strong returns for the year in a sector that may have been ignored by most investors.
P&I: What are the major portfolio goals these strategies can help asset owners meet?
Hartviksen: If asset owners are looking for a way to add yield in a risk-appropriate way, multisector credit could be a much better match. If they are looking for something highly uncorrelated where they can invest their surplus funds, an unconstrained fixed-income strategy may be a fit. It very much depends on what the investor is looking to achieve.
P&I: Have managers’ efforts been successful? Or are there other ways to tackle this issue?
Ken Hill: Most managers can be successful in helping clients achieve their goals … as long as the manager and client are on the same page in terms of expectation and risk. Most other ways to tackle a multi-asset framework are more difficult, as the client has to be heavily involved in the asset allocation and needs to be able to react quickly.
P&I: Are these strategies best suited for a certain size of asset owner?
Hartviksen: These strategies can work for all asset sizes. For the smaller relationships, having a multi-asset strategy provides the speed, agility and expertise of a manager that is watching the market and can move between asset classes. For the larger relationships, having a second opinion on where the money should be directed is a great alternative for asset owners that manage money in-house. It also gives asset owners that manage money in-house access to sectors such as bank loans or emerging market debt, where they may not have expertise.
P&I: What’s the difference between a multisector credit strategy and an unconstrained fixed-income strategy?
Hill: Often investors use the two terms interchangeably, but in reality, they are very different. A multisector credit strategy is a credit-based strategy, so it will broadly follow the returns pattern of the credit markets. This type of strategy will have a normal duration range and invest predominantly in fixed-income credit markets. An unconstrained fixed-income strategy will generally have a much wider band for duration (including negative duration in some cases) and will sometimes have an allocation to equities or esoteric securities. In addition, unconstrained will generally have much more volatility as currency, duration and yield-curve bets are expressed in large measures.
