Balancing fixed income critical for portfolios

Investors got a preview of how fixed income markets might respond to a return of inflation earlier this year, when in the March quarter US Treasury yields rose by around 75 basis points and asset prices fell sharply.

Portfolio manager Brian Kloss at Brandywine Global, a specialist investment manager of Franklin Templeton, said the lesson income investors must learn from the bond sell-off was that global corporate credit was a good place to strike the right balance between identifying the opportunities from the post-COVID global economic recovery and insulating their portfolios from a pick-up in inflation.

Kloss said: “In the near-term, investment grade corporate bond spreads could see another 20 basis points of tightening and below-investment grade corporate bond spreads could tighten by 50 to 100 basis points.

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“We are constructive on corporate credit, especially at the shorter end of the curve, but opportunities will be selective and uneven. Active management will be the key.”

Kloss said if inflation returned for real, and assuming it was the result of stronger economic growth, longer-duration assets would be repriced across the quality spectrum.

“In this scenario we would expect more equity-like assets, lower-quality securities with shorter maturities and pricing power, to outperform other fixed income segments,” he said.

In terms of industry sectors, Kloss favoured commodities and basic materials, which were poised to benefit from the post-pandemic economic reopening.

“We are also focused on those entities that have pricing power as a potential hedge against rising prices,” he said.

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