Higher bond yields, slowing inflation, and the likelihood of lower interest rates have drawn many investors back to the bond markets.
After a decade of low interest rates across the globe, the search for yield can now be as simple as buying a diversified bond fund. While interest rates will ebb and flow in the years ahead, we expect higher yields to become the new normal, reducing the risk required to generate compelling income and long-term returns. And, in the near term, slowing inflation should lead to lower interest rates in Europe and the US, providing fertile ground for short-term gains in government bonds, corporate bonds, mortgages – even the emerging markets and alternative asset classes. Whether your horizon is short or long-term, we believe it is time to update your bond portfolio. We identified three potential investment approaches to help you find the right balance of risk and return.
A more defensive bond portfolio that offers more income than cash
This portfolio strategy may suit investors who currently hold large allocations to cash or money market investments but are eager to take a more active position in bonds. It remains a large allocation to cash (money market funds) but adds more exposure to shorter-dated government bonds and retains some allocation to corporate bonds to help increase the income the portfolio generates. It also increases the allocation to high-quality asset-backed securities (ABS) which have floating-rate coupons and thus can provide some protection against short-term rises in interest rates.
Exhibit 1
Allocating to a defensive portfolio
Data as of March 2024, Sources: BNP Paribas Asset Management
To build this portfolio, investors can consider allocating to the following strategies:
- Money market funds for stability and income
- Asset-Backed Securities (ABS) funds for diversity and income
- Short duration corporate bond funds to boost income
- Short duration government bond funds to benefit from falling interest rates
A portfolio that can boost income and returns should rates fall
This portfolio strategy is more suited to investors who are eager to boost their portfolio’s income and comfortable with more exposure to rising and fall interest rates, which could benefit if interest rates fall substantially in the coming years. It holds a majority of its exposure in government and government-issued inflation-linked bonds in both the US and EU on the expectation falling interest rates would boost returns. It also holds some exposure to global bonds to provide some diversity and some high-quality corporate bond exposure to boost the portfolio’s income. Finally, it retains some exposure to more defensive securities, including short-dated government bonds and floating-rate asset-backed securities, to help reduce volatility.
Exhibit 2
Sample allocations with additional risk
Data as of March 2024, Sources: BNP Paribas Asset Management
To build this portfolio, investors can consider allocating to the following strategies:
- Global government and inflation-linked bond funds for greater exposure to yield changes
- Global aggregate bond funds to increase diversity
- Corporate bond funds to boost income
- Short duration government bond funds to generate income and return should interest rates fall.
- Short duration corporate bond funds to boost income
- Asset-Backed Securities (ABS) funds for diversity and income
Adding credit risk and global diversification: A global bond portfolio offering income, diversity, and upside
For investors comfortable with greater interest rate exposure but eager for more diversification, this global portfolio strategy aims to balance income and diversity to help generate compelling, and more stable, returns. It has less exposure to government bonds so could see less upside in a falling rate environment, but it’s greater allocations to high-yield corporate bonds and emerging market bonds could offer similar returns while providing greater diversity. The portfolio also offers some exposure to absolute-return strategies, which aim for positive returns regardless of the direction of the global macroeconomic environment. Finally, the portfolio includes an allocation to investment-grade corporate bonds to boost income and a small allocation to more defensive strategies to help reduce volatility.
Exhibit 3
Sample allocations for a global portfolio
Data as of March 2024, Sources: BNP Paribas Asset Management
To build this portfolio, investors can consider allocating to the following strategies:
- Global government and inflation-linked bond funds for exposure to yield changes
- Global aggregate bond funds to provide diversity
- High-yield corporate bond funds to boost income
- Emerging market bond funds to boost income and provide diversity
- Absolute returns funds to provide more diversity in the portfolio’s returns
- Investment-grade corporate bond funds, as well as short duration government, corporate bond funds, and Asset-Backed Securities (ABS) funds to boost income and lower volatility
There is a bond portfolio for every investor
One of the sample portfolios described above could be right for you, but at BNP Paribas Asset Management we understand that every investor has different needs and different goals. To find out more about our range of fixed income investment opportunities please contact your local client relations manager and let us find the right solution for you.
