U.S. investors will pull an estimated $1 trillion — or 13.5% of U.S. assets professionally managed in fixed income — out of core, core-plus, government and fixed-income index funds over the next three to five years because of fears over rising interest rates, according to Casey, Quirk & Associates.
Higher interest rates would especially hit defined contribution plan participants and individual investors, who hold nearly $5 trillion of the aggregate $7.4 trillion invested in professionally managed fixed income, according to a Casey Quirk white paper, “When the Tide Turns: Building Next Generation Fixed Income Managers,” released Thursday. Even a zero-rate environment would lead to outflows as disgruntled investors seek higher returns, according to the white paper.
“It's a really big story,” Yariv Itah, partner at Casey Quirk and lead author of the white paper, said in an interview. He said the expected outflows would be accelerated if rates go higher sooner.
U.S. fixed-income managers will need to find ways to diversify revenue away from such fixed-income strategies “and communicate why it's necessary to do so to their constituents, to clients and to the broader market regardless of the timing and magnitude of interest-rate shifts,” Mr. Itah said.
Rather than move out of fixed income, however, investors are expected to move into other, next-generation fixed-income investments, like multisector, multicurrency and multiregion portfolios, and into strategies based on inflation protection, negative rate exposure and floating-rate instruments. Also attractive are yield-driven strategies such as real estate, agriculture, infrastructure and possibly dividend-yielding equity strategies, and adding loan origination and direct lending capabilities.
Mr. Itah said institutional investors are already making moves into those strategies.
“Traditional fixed income is at risk,” he said. “Any firm that has more than 25% of its revenue from traditional fixed income should expect a challenge.”
According to the white paper, fixed-income managers that are able to adapt successfully might capture as much as $6.4 billion of new revenue from next-generation fixed-income strategies.
