The majority of advisers are telling their their clients to pare back their bond holdings. Here's their reasoning.
With interest rates seemingly bolted to the floor, thanks largely to the Federal Reserve's monetary policy, financial advisers see a host of challenges and some rising concerns in the brave new world of fixed-income investing.
An InvestmentNews survey of nearly 500 advisers last month found that the financial advice industry generally has been moving away from bonds, that they think that rates have to start rising and that they have little confidence in the Fed's ability to manage inflation if and when it kicks in.
When asked about the direction of interest rates in the year ahead, 51% of respondents said that they expect them to rise, 47% said that they will stay at the same low levels, and less than 2% said that they anticipate rates falling further.
“Almost certainly, interest rates have to start rising, and I think they will rise on their own without the help of the Fed,” said Steven Balaban, a financial adviser with Williams Financial Group Inc.
Despite the challenges to bonds, the prices of which generally move in the opposite direction of yields, he pointed out that depending on the pace, rising rates and inflation can be managed because they indicate a healthy and growing economy.
According to the adviser survey, more than 60% of respondents said that they aren't confident that the Fed is prepared to effectively combat inflation if and when it materializes.
“I am certainly concerned about inflation, going forward,” said Todd VanDenburg, president of VanDenburg Capital Management.
“We're living in unique times right now, and the Fed is using a playbook that I'm not sure applies,” he said. “They're keeping rates low and keeping liquidity at the banks, but then Congress puts all these restrictions on the banks that make it hard for them to lend the money out.”
Advisers work with clients at all stages of life and in myriad economic scenarios. But the general trend that emerged from the survey was a reduced allocation to bonds over the past few years.
In terms of advisers' current average allocation to fixed income, nearly 30% said that it was between 31% and 40%
Just 10% of respondents listed average bond allocations beyond 51% of portfolios, and 42% of respondents said that they have bond allocations of less than 30%.
Asked how they are advising clients on bond investing, 57% of respondents said that they are recommending reduced allocations to fixed income, 41% said no change, and nearly 3% said that they are recommending more bonds for their clients.
“I am absolutely advising clients to reduce their bond exposure,” Mr. VanDenburg said. “My clients understand that in a better rate environment, we could come down on our equity allocation and get a better yield from bonds, but they understand that in today's world, this is not the pure fixed-income play it used to be.”
As bond yields have shrunk, a lot of advisers have moved to income surrogates.
Dividend-paying stocks, master limited partnerships, real estate and annuities were all listed as popular bond alternatives.
“Bond investing has evolved into a combination of defensive and tactical investing focused the eventual rise in rates,” said Jon Wax, president and chief executive of Waller & Wax Advisors Inc./Raymond James.
“Defensive involves very high-quality, low or no default paper, coupled with short maturities,” he said. “And an example of tactical would be some of these strategies that are actually offering inverse exposure to bonds, and that's clearly not appropriate for all clients.”
(For more of the survey results, see this week's issue of InvestmentNews.)
