At Bramshill Investments, we believe relative value and risk reward matter. There are times to take risk, and there are times to play it safe. Safe is sounding good to us at the moment. Given our ability to embrace tactical asset allocation and sector exposure within the fixed income universe, we continuously assess risk reward at the macro and fundamental levels. For the better part of 2016, we have been more positive on growth and inflation than many of our peers. Earlier in the year, we highlighted interest rate risk as the biggest potential threat to principal loss as we anticipated the three biggest inflationary headwinds (low oil, falling healthcare costs and strong U.S. dollar) beginning to abate towards the end of the first quarter. Our analysis led us to believe that the gradual rise in rates could cause price deterioration for investors in long duration investment grade, municipal bonds and Treasuries. While certainly not running hot, inflation has begun to show some signs of life; add to this the uncertainty surrounding the Fed, the political circus masquerading as an election and the Italian referendum on the banking system in December. It should be no surprise that the fixed income markets experienced significant volatility since September. The table below highlights some of the price deterioration over that time.
Traditionally, fixed income has been viewed as the standard for absolute return strategies. Bond investors have rarely experienced significant and prolonged drawdowns within their core allocations. While we are certainly not forecasting calamity, we are very conscious of interest rates tailing, similar to what happened during the summer of 2013. As a result, we are maintaining our defensive positioning and have reduced our portfolio duration to about 1.6 years, our shortest duration since inception. As fixed income investors utilizing tactical asset allocation to harness what we believe are the best risk reward trade-offs, we thrive in environments where we can take advantage of the most attractive opportunities across our five primary asset classes – investment grade, high yield, preferreds, municipal bonds and U.S. Treasuries. This allows us to search for opportunities and seek to avoid risks. In our conversations with RIAs, we are encouraging them to reanalyze their strategic fixed income allocations. Many bond managers have performed well this year because they have had significant exposure to duration or to high yield. Going forward, we believe RIAs should consider their interest income relative to the risk. Being mindful of both duration risk and credit risk in this environment is, in our opinion, prudent.
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Stephen Selver is the CEO at Bramshill Investments, an asset management firm specializing in absolute return solutions within fixed income and income producing assets. Click here to view his bio and other team members of Bramshill Investments.
Past performance may not be indicative of future results, which may be impacted by unforeseen economic events or evolving market conditions. The indices quoted are included for illustrative purposes only, as an index is not a security in which an investment can me made. Certain statements are forward-looking and may not come to pass.