Look beyond traditional fixed income levers to generate income

Financial advisers should look beyond traditional fixed income assets if they want to maintain a similar level of income generation their clients have been used to in the past, according to a panel. 

Speaking on a panel during Fidante investment forum, Ardea Investment Management portfolio manager for fixed income strategies, Gopi Karunakaran, said it was unrealistic to expect that traditional government bond yields could provide the same defensive benefit it used to in the past and investors needed to be less reliant on it. 

Karunakaran said investors could get income defensiveness by using other levers in fixed income apart from duration. 

“The challenge is that yields are low but there are other ways of generating an income-like return stream but without yield,” he said. 

“In government bond markets where yields are negative we can generate positive returns by capturing price movement and that’s a total return approach.  

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“The key here is volatility control. If you can manage it and return a low volatility return profile irrespective of the market environment and you can use that to pay regular distributions. That can be an alternative and complement a traditional type of income fund.” 

The panel conducted a poll that found that 34% of the forum’s participants looked to decrease their bond allocations within their fixed income portfolio. Another 9% looked to increase and 57% said they were not changing their allocation. 

Also on the panel, CIP Asset Management head of fixed income, Victor Rodriguez, said investors could maintain the same level of income by taking more risk by moving to either high yield markets or extending duration by buying 10-year Transurban bonds opposed to three-year bonds and while it did not introduce more default risk, it increased market-to-market risk. 

“One way to think about income generation is how to diversify and maintain that level of income without taking more credit risk. We think illiquidity premiums are still as attractive as they’ve been over the last 12 months.  

“For the same level of credit risk you’re able to invest BB rated credit with consistently been able to achieve 2% type illiquidity premiums over other similarly rated and similarly credit risk assets in the credit bond market.  

“This advantage of that kind of opportunity which doesn’t increase credit risk is a good alternative right now to try and maintain income levels to what investors have been used to in the past.”