In mid-March 2020, the yield on the 10-year Treasury dipped below 1%. The benchmark rate hasn't exceeded 3% for more than two years and is likely to stay low for the foreseeable future after Federal Reserve Chairman Jerome Powell effectively ruled out hikes until at least 2023. This persistent downward pressure on rates has led institutional investors to increase allocations to income-generating assets such as levered loans and real estate to achieve the returns needed to meet long-term obligations, typically about 7% annually.
Though the dollar value of the high-yield market rose by 48% over the past decade, levered loans grew nearly three times faster at 140%. And while growth in institutional real estate investment is more difficult to measure, a good proxy, according to industry consultants, is net assets in the NFI-ODCE index, a compilation of 26 open-end commingled funds pursuing core, U.S.-based real estate strategies. The assets tracked by this index soared by 254% during the past 10 years, more than quintupling the growth of the high-yield market. However, when it comes to total return, income, credit risk and liquidity, real estate and levered loans may not turn out to be the best choice.
Measuring throughout a full economic cycle, from before the global financial crisis through 2020, the total return generated by high-yield bonds was 7.31%, outperforming real estate by 2 percentage points and levered loans by nearly 3 percentage points. Real estate prices rebounded strongly from the 2008-2009 downturn during the past decade, driving overall strong returns in the sector. Yet, over the past five years, high yield has again outperformed the other two asset classes on a total return basis.