The overlooked role of capital securities
There is a role for advisers to include capital securities in portfolios to provide diversification within clients’ fixed income allocations, according to fund manager Wellington Management.
Capital securities are defined as hybrid investments that share the characteristics of both bonds and equities such as cumulative preferred stock, junior subordinated debt, and additional Tier 1 capital.
They also include structural features that provide corporations with regulatory or rating agency capital treatment without diluting common shareholders.
The attraction of them for clients, the fund manager said, is that they represent a “structurally inefficient asset class with attractive income, return and alpha potential”.
This is demonstrated by the fact that the dispersion of their returns is comparable to that of high-yield corporate bonds. Looking at performance of capital securities over 10 years to 30 June, capital securities matched the returns of high-yield corporate bonds on both a total and risk-adjusted basis and 66 per cent of the yield of capital securities came from securities which were rated BBB or higher.
They also offer tax efficiencies to individuals via qualified dividend income.
Last week, Russell Investments identified that helping clients with their tax strategies is one way that financial advisers can add value to their client relationships. Only 12 per cent of people considered tax effectiveness as among their top three considerations when making investments, according to the ASX.
Commenting on the asset class, Noah Atlas and Brian Garvey, portfolio managers at Wellington Management, said: “Capital securities are a nuanced and overlooked asset class that, in our view, may be an attractive addition to a broader fixed income portfolio.
“We believe that investors can benefit from exposure to capital securities given the diversification, income, and return potential of the asset class.
“With valuations well north of historical median levels and only moderate correlations to other markets, we think capital securities currently represent a compelling opportunity and could be a complement to a broader opportunistic fixed income allocation.”
AUTHOR
Laura Dew
Recommended for you
Regal chief investment officer Philip King will step down from listed investment company VGI Partners Global Investments after the LIC reported a loss of $17.6 million for FY25.
Real asset commentators have shared what advisers should be considering when conducting their due diligence on the assets and how they can mitigate illiquidity for retail clients.
GQG Partners has announced net flows were down 28 per cent in the first half of 2025, with redemption pressure particularly hitting Australia.
Betashares has launched a complex ETF focused on emerging market equities, helping advisers and investors to diversify beyond domestic and US exposure.
