Broker Check

Fixed Income: As Alternative as the Ivy League

| February 25, 2019

Last month we discussed how rising interest rates hurt traditional fixed income strategies.

While bond performance may be lacking, it doesn’t mean lower-volatility investment instruments shouldn’t exist in a portfolio. From a holistic point of view, these investments are critical to spreading risk and minimizing volatility.

But when it comes low-volatility investments that produce income, simply owning bonds won’t do the trick anymore.

Rising Rates Bury Bonds

Below is the chart for the Federal Funds Rate, which is what it costs banks to borrow money. It also decides interest rates everyone else pays.

As you can see, the rate is historically low right now. It’s also expected to rise more and has yet to normalize, meaning there’s room for further hikes.

And as it rises, bond values will fall.

That stings when bond performance isn’t all that great now anyway. The table below shows the performance of benchmark bond indices.

Clearly, there’s a performance lag due to the relationship between interest rate movement and bond values.

Where to Turn

This means investors must identify alternative investments that reduce overall portfolio risk and produce income. But, when people hear “alternative,” they often think gold or options trading.

At its core, an alternative investment is one that is simply different from traditional stocks, bonds and cash. The idea is to use strategies with little or no correlation to traditional fixed income or equities. That way, if equity risk pops up and rates keep going up, the alternative strategy continues performing with little or no volatility.

Mimic Yale and Others

Some of the best “de-risking” alternative investments contain underlying floating-rate debt instruments or non-correlated investments. This helps keep them free from market turbulence.

One such strategy, the “Ivy Portfolio,” is named for its similarity to risk mitigation techniques employed by ivy league university endowments. It aims to deliver safe returns consistently over time. There’s also a book on it.

Investments products that mimic the “ivy” strategy exist, and they’ve come a long way.

In fact, they’re becoming increasingly available to retail investors through specific funds and private equity investments. We introduce them to clients looking to “de-risk” their portfolios while traditional fixed income strategies prove less reliable.

So, for this series’ next post, we’ll dive deeper into specific income-delivering alternative investment strategies. We’ll examine how they work and how they might fit into a portfolio.

Securities offered and sold through CoreCap Investments, Inc., a registered broker/dealer and member FINRA/SIPC. Advisory services offered through CoreCap Advisors, Inc., a registered investment advisor. Cornerstone Financial Services and CoreCap are separate and unaffiliated entities.