A little over 10 years ago you could buy a GlaxosmithKline bond, one of the largest and safest companies in the UK which back in 2009 paid a handsome annual yield of 5%. Today, a similar bond would provide a yield below 1.5%. In order to earn a yield of 5%, you’d need to look to Mexican or Colombian government bonds, or some fairly risky single-B rated US high yield bonds. That’s a huge shift in returns and risk in just a decade.* Today, around 75% of bonds globally now yield less than 1% pa, eroded to almost nothing after fees.
But what does this mean for investors’ bond portfolios in 2021? Do we have to simply accept returns that are negative in real (after inflation) terms? Of course, there are no easy answers and unfortunately, it’s impossible to wind back the clock to resurrect those higher returns. But there are a few simple tweaks that you can make which will have a meaningful difference on your returns.
Go illiquid
Over the last decade, the universe available to credit investors has radically expanded. Higher returning and less liquid bonds have become more accessible as banks stepped back from lending, replaced by asset managers lending money on behalf of their clients.
The first suggestion, then, for fixed income investors that have not already done so is to look more at illiquid credit investments. Asset classes like private credit, direct lending and even opportunistic debt have become much more mainstream. However, they do need to be approached with caution as there are significant extra risks to be understood and managed.
In recent years, what we find is that many investors have been deploying their money into illiquid credit during the early stages of their investment horizon, and moving to safe investment-grade corporate bonds when they are looking to reduce their overall risk exposure. This makes a lot of sense, but are these investors missing out on attractive opportunities within the more liquid bonds space?
LCP clarity:
In an economy where bond yields are dwindling, your bond investments need to work harder to earn good returns.
LCP insight:
Take a fresh look at your bond portfolio and consider where your bonds can work harder.
Check out our case study on how we have helped clients do this here.
A look at new areas in liquid bonds
There are three areas of the liquid bonds market that we think deserve more of a look:

"Shorter-dated portfolios will mature relatively quickly, giving investors the option to reinvest at higher returns if yields were to rise."
Jennifer Davidson
Investment Analyst
Why diversify?
Each asset class within the liquid credit category behaves differently. Returns of some (such as ABS) are driven by consumers paying back their loans, while for corporate bonds the default risks of each individual company are what matters. The risk of a bond defaulting can depend on the company’s structure and industry, as well as general market conditions, my colleague Madeline goes into detail on default risk in the next article. Thanks to the underlying differences between the asset classes, you can diversify by investing across several of these classes. For example, emerging market debt and ABS are influenced by completely different economies and types of assets – so they will react in different ways to the same market conditions and provide some protection against extreme losses. In our view, using a range of liquid credit asset classes (as opposed to merely sticking to what you know) is essential to achieve a fully diversified portfolio.
Some managers, such as multi-asset credit managers, bring together a range of these different sub-asset classes (get in touch with us to find out more).
What next?
You should consider revisiting the credit assets in your portfolio. In a time where easy return streams are hard to come by, you need to make your money work hard for you, and this means looking beyond the conventional within the liquid bonds space. This is particularly important if you’re unable to take advantage of illiquidity premia. While your risk tolerance and investment objectives will determine which asset classes complement the rest of your portfolio, it’s worth exploring the areas mentioned above when reviewing your strategy.
Sources:
* All percentage figures sourced from: Bloomberg Finance, retrieved from Bloomberg terminal, 2021