Actively Adding Value
Actively Adding Value
Maximise returns from fixed income with a fund manager
Since asset classes behave differently, it makes sense that they should be managed differently. This is true for bonds and equities. Unlike the latter, there is a strong case for fixed income to be actively managed.
Research on the performance of bond funds, the median active bond fund manager was found to have outperformed its passive counterpart by about 50 basis points over the last 10 years*.
Furthermore, 65% of active bond managers outperform their benchmarks, in a range of popular Morningstar bond categories, but only about 37% of active equity managers did the same.
Three factors allow the active bond fund manager to generate alpha returns, i.e. the excess return of an investment relative to its benchmark. These factors are: yield, the issuer’s credit profile which relates to its ability to pay and liquidity.
Yield is important because it accounts for most of the realised return made by fixed income investors. In other words, the upside for bonds is known while the downside is unknown. It works the other way for equities.
Active bond fund managers generally look for high yielding bonds of good credit quality. This addresses default risk that the bond issuer will be unable to make the required payments which is an increasing concern, given the string of defaults in Singapore’s corporate bond market in the past two years. Bond issuers such as Hyflux and Noble Group are recently looking at some form of debt restructuring, as they are unable to pay their debtors including bond holders.
Liquidity refers to the ease of buying or selling a security. Active bond managers monitor liquidity as some bond markets can also be less liquid. Hence it is difficult for passive approaches to rebalance efficiently, since they would have to pay a higher price for less liquid issues.
The structure of bond markets is fundamentally different from equities. Factors such as yield, credit-worthiness, and liquidity create difficulties for efficiently managing a passive approach. So for the reasons we’ve highlighted above, there is a strong case for active management in bond markets.
Lion Global Investors Limited (“LGI”) is a company incorporated in Singapore and a member of the OCBC group.
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