Clayton Fresk, portfolio manager, Stadion Money Management, Watkinsville, Georgia:
Navigating this rate environment can be a tricky proposition. In the short term, the 10-year looks poised to continue to move lower and potentially break though the post-Trump spike from November. If that were to be the case, I’d be inclined to increase duration at least on a short-term basis to capture some price appreciation since there isn’t much resistance until rates reach the 1.8-2% range on the 10-year.
Taking a more holistic view, I’ve favored corporates (both high-yield and investment-grade) over Treasurys for a while, as spreads have continued to tighten since early 2016. However, as spreads continue to hover near their lows, increased spread duration becomes a concern in case that tightening trend reverses.
While I don’t think spread duration can be reduced significantly given the low-yield environment, diversifying this risk may be of value, such as moving high-yield corporate exposure into emerging market debt via ETFs such as the Vanguard Emerging Markets Government Bond ETF (VWOB).
I’m also taking a closer look at the growing number of smart-beta fixed-income ETFs. While many of these are in their infancy, getting a gauge on performance differentials will take some time. However, based on analysis of the index methodology, there are a few names that seem like very interesting substitutes or complements to the traditionally weighted ETFs.
Taking an even larger viewpoint, moving out of the realm of traditional fixed-income investing—and it’s seemingly increased equity correlation from the addition of spread duration and more equitylike exposure—it’s worth looking into adding noncorrelated asset classes into the mix, particularly liquid alternatives.
While there are a handful of alternative names in the ETF space, I feel this may be one area where looking at mutual funds as a complement to a broader ETF portfolio may be of benefit. This may require further analysis of the landscape as alternative exposure can vary widely, but there are solid names in the mutual fund space that can offer a fixed-incomelike return stream with the diversifying benefit of lower correlations to traditional fixed income.
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