Wynn Harvey Wealth Counsel - Fixed Income Update
Traditionally, “fixed income” investments provide stability in your portfolio. As an asset class with normally a low risk profile, the role we expect it to play is to smooth out the volatility of investment returns in “stocks” that are considered higher risk, while providing a steady income stream and, in some cases, growth of capital.
In the last two years, investments in riskier asset classes such as equities and commodities were rewarded despite the market confusion and volatility, while traditional “risk-free” investments in government bonds were largely negative.
As we wrote about in our 2022 Outlook letter, 2021 was an unpredictable but also transformative year in financial markets. We saw concerns around inflation for the first time in decades, the emergence of new variants of the virus, and policies from governments and central banks that changed often.
As inflation becomes more of a concern worldwide, governments usually use monetary policy to keep it in check. We expect rates will continue to move higher to combat inflation. So far this year, The Bank of Canada has hiked by 0.75% and has given guidance that more rate increases are on the horizon.
In this current environment of higher inflation and expected rising interest rates, we find ourselves in a place many investors have not been before; a place where there is price volatility in the Income sleeve of their portfolios. The simple explanation for this volatility is that bond prices have an inverse relationship to interest rates. When interest rates go down, bond prices go up; when interest rates go up, bond prices can and do go down. Of course, this is an over-simplification. The truth is, the bond market(s) are a lot larger than the stock market(s) and much more complex. For whatever reason, bonds don’t generate the same number of headlines as stocks. The reason likely being that the potential for return is never expected to be as high, making them far less interesting.
So, how do we mitigate risk in a rising rate environment?
A summary of our two-pronged approach to risk control in the Cash/Income bucket:
- We hold a larger than usual allocation in risk free money-market (MMKT) instruments
- For our clients who draw an income from their portfolios, this can represent up to 3 years of income requirements. We do this so we are never forced to sell anything at “the wrong time”.
- For our clients who are building wealth, we also have a higher-than-normal allocation to money market as this is where we temporarily park funds that are intended for future investment in capital growth funds while we wait for market pull backs.
- **Please note that we also exempt investments held in money-market funds from management fee charges.**
- We invest with expert fixed income and credit managers in actively managed funds to provide diversification and capital protection and to improve total return potential in this environment.
Instead of writing about the various funds that are included in the “Cash/Income” bucket of your portfolio individually, we thought it would be more informative to summarize the investments together and share how they work collectively. To find out more, please click here: