INVESTMENTS & PENSIONS
If rates do start to fall in the months and quarters ahead , then the outlook for yielding assets should be good , with the value of bonds rising . In addition , the rush of money into the safer end of the market spectrum over the past few years , particularly money market funds , is likely to reverse as interest rates fall . These flows will be primarily directed at other yielding assets , further supporting prices .
Within our portfolios , we think it is prudent to start trimming duration exposure within our core income yielding assets . An inverted yield curve allows investors to take advantage of higher yields for less risk and short dated credit markets have historically performed well following the inversion of the curve . Within credit and emerging market debt , our preferred markets are European subordinated financials on attractive valuations and solid balance sheets , and emerging market debt local currency .
DIVERSIFICATION WILL NEED TO EVOLVE IN A NEW ENVIRONMENT
Risk management practices will also need to adapt in this new yield environment . Before the pandemic , diversification was viewed as the last free lunch , with income investors encouraged to broaden the scope of assets in their portfolios as much as possible in the clamour for yield . But too often concerns about the risks of particular assets were pushed to one side as long as they promised an income . The lesson of the last few years is that this less discerning approach to diversification has not been as successful as hoped .
In future , not only will the role of each asset need to be considered now that yield is plentiful , but also how each fits together to form a portfolio . Correlations have become less predictable recently , which will require a more selective approach to achieving diversification . This process will likely lead to more focused portfolios with fewer assets .
Currencies could have a more important role to play going forward and this is another example of how we expect income investing to evolve . Greater dispersion in monetary policy between regions will lead to higher foreign exchange volatility , meaning the currency mix of assets in a portfolio will demand closer scrutiny . The proactive management of currency risk will become a more useful tool to deliver objectives like downside protection or diversification than .
We are seeing this at the moment , where the correlation between bonds and equities is higher than it has been for some time . In this environment , the US dollar is proving an effective diversifier for us because it is negatively correlated with both .
SUMMARY
The abrupt change in the macroeconomic regime has made cash a tempting option for income investors and it is undeniable that there have been periods when holding cash would have been preferable to holding other assets . But market conditions never stand still . The outlook for cash is already less favourable than it was in 2023 and while it might be a good place to shelter from time to time , it is not a good place to stay . Looking ahead , investors will need a different mix of assets to provide the income , growth , and diversification they need .
Important information
This information is for investment professionals only and should not be relied upon by private investors . Past performance is not a reliable indicator of future returns . Investors should note that the views expressed may no longer be current and may have already been acted upon . Fidelity ’ s Multi Asset Income funds can use financial derivative instruments for investment purposes , which may expose the fund to a higher degree of risk and can cause investments to experience larger than average price fluctuations . Changes in currency exchange rates may affect the value of investments in overseas markets . Investments in emerging markets can be more volatile than other more developed markets . The value of bonds is influenced by movements in interest rates and bond yields . If interest rates and so bond yields rise , bond prices tend to fall , and vice versa . The price of bonds with a longer lifetime until maturity is generally more sensitive to interest rate movements than those with a shorter lifetime to maturity . The risk of default is based on the issuers ability to make interest payments and to repay the loan at maturity . Default risk may therefore vary between government issuers as well as between different corporate issuers . Sub-investment grade bonds are considered riskier bonds . They have an increased risk of default which could affect both income and the capital value of the fund investing in them . Reference to specific securities should not be construed as a recommendation to buy or sell these securities and is included for the purposes of illustration only . Issued by FIL Pensions Management , authorised and regulated by the Financial Conduct Authority and Financial Administration Services Limited , authorised and regulated by the Financial Conduct Authority . Fidelity International , the Fidelity International logo and F symbol are trademarks of FIL Limited .
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