04.30.2012

Far On The Curve

04.30.2012

It’s no secret that investors are reaching far and beyond for yield in an interest rate environment that hardly promotes appreciation of capital. Institutional investors aren’t the only ones clamoring for yield; the retail investor’s 401(k), laid across many a fixed-income fund, are also suffering as portfolio managers play it conservatively and question putting on risk.

However, it has become clear that changes are in order. Fixed-income portfolio managers are now going far out on the yield curve in order to achieve sizable yields. High-yield corporate debt and long-dated municipal bonds are just two of the asset classes.

Munis remain attractive to investors despite sporadic problems associated with default throughout various U.S. cities. Debt that’s price 20 years out with a top notch rating can fetch as much as 5% to 6% in yield – very attractive compared to the short end of the curve in which instruments like certificates of deposit and money market funds are offering a few basis points.

Fixed-income giant BlackRock has been pushing this agenda for some time now. Munis are still attractive for those looking for yield in their portfolio. Corporate bonds, including high-yield bonds, are an excellent source of yield provided you’re willing to deal with the risk premium associated with the asset class.

This all leads to the problem of risk/reward and finding the proper ratio. The risk of municipalities in the U.S. defaulting is relatively low from a broad, overreaching perspective. In this case, in order to achieve a decent return on investment, investors will have to put up with time risk (i.e. long-dated bonds).

Moving into the week, equities are on the precipice of a reversal. Worries about the U.S. and Europe continue to press on and should sentiment quickly change, investors will be allocating from equities into fixed-income – fast.

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