We again have a year where we expect rising interest rates, not necessarily the kind of increases in interest rates that rattled investors in 2013, but still enough increase in interest rates to deliver disappointment in terms of returns in traditional fixed-income investments. Last year, traditional fixed-income investments, because of rising interest rates, saw their incomes offset by price declines. And in many areas, this led to negative total returns in fixed income.
For 2014, we see smaller increases in interest rates, but still the same effect, income being offset by price declines. And across many areas of traditional fixed-income investments, this means the outlook for returns is roughly around zero. For most investors and their fixed-income strategies, zero is not good enough. And so we need to do something different with our fixed-income allocations if we want to achieve objectives of higher than zero returns.
Where can we find these types of returns in fixed income? We have to adopt and look at different types of strategies of investing in fixed income. One of these areas is to embrace what we call flexible fixed-income strategies that give us the flexibility to manage the risks in fixed-income portfolios of a rising interest-rate environment. Flexibility allows fixed-income portfolio managers the possibility of generating positive returns, even in a rising-interest-rate environment. Embracing flexible alternatives as a larger share of your core fixed-income allocation and diversifying away from traditional fixed-income strategies remains one of our core recommendations for 2014.
Related by Topic: Economic Outlook , Fixed Income
As high quality bond yields are likely to stay low for longer, selectively adding risk may be the answer to finding a more attractive return stream.