Register For Our Mailing List

Register to receive our free weekly newsletter including editorials.

Home / 467

How diversified bond portfolios yield 7%

Adam Grotzinger is a Senior Portfolio Manager for Neuberger Berman’s Strategic Income Fund, widely available on Australian platforms. Neuberger Berman manages about US$440 billion across all asset classes in 35 offices worldwide, including Sydney.


GH: It's been a difficult time for investors with global stockmarkets down 20% and major bond indexes off 10%, even US Treasuries. Is it a ‘nowhere to hide’ period for investors?

AG: Yes, in the wake of the so-called ‘interest rate normalisation’ from very low government rates and the supply-demand imbalance after Covid, there’s a stark recalibration in yields and spreads that have hit both bonds and risk asset globally.

GH: You manage the Strategic Income Fund. How has the macro environment affected the way you've positioned the fund?

AG: When we were winding down 2021, we had a view that 2022 would bring a lot of macro, central bank-induced volatility due to the lift off from the zero boundary of interest rates. It then happened in quick order and sizable magnitude. So in Strategic Income, we brought down the risk budget of the fund in Q3 and Q4 of 2021, we reduced the high yield exposure and the market value of exposure, and we increased to about 20% cash and cash equivalents as ballast. We were largely invested but feeling good about on a line-by-line basis on the credits we owned coming into choppy waters.

But we’ve also evolved from concern about interest rates and macro trends to increasingly economic and growth worries, so we’ve been gradually redeploying capital back into the bond market where we think there's good value. It’s mainly in investment grade assets largely in the US. As a result of the adjustment factors, they yield attractive margins and we see value at these levels. We have good quality corporate debt at 150 basis points (1.5%) over Treasuries, triple-A agency mortgages with coupons of 5%. It gives us a portfolio yielding around 7% for an average credit quality of A-minus. Cash is down to 7% so we still have some dry powder.

GH: This availability of 5% to 7% yields is something investors haven't seen for many years. Do you think credit markets are closer to pricing in a recession than equity markets?

AG: Well, right now, we see better relative value on a multi asset basis increasingly in fixed income. The adjustment has occurred in short and swift order and the risk/return looks attractive, even if we have a technical recession in the US. For instance, the US high yield market spreads have offered 500 to 600 basis points (5% to 6% above Treasuries) and that level of compensation is out of kilter. It is pricing in a much worse environment for defaults than we are modelling from a bottom up, issuer-by-issuer analysis. So we have a different takeaway there from the market and that's leading us to see better value. It started in favour of investment grade but it's seeping into the lower quality credit end.

Source: Bloomberg. Ranges represents 20-Year High/Low. As of June 2022.

GH: Even when you expect higher yields and wider spreads, you essentially need to stay invested to generate income despite some price deterioration. Do you need to communicate to clients that this year is more of an income story than a capital gains story?

AG: Yes, setting expectations is spot on for the environment we’re in and the objectives for a multi sector bond fund. We embrace market volatility, but the distinction is that we don’t want to embrace impairment risk by poorly underwriting credits. So there’s some short-term volatility in the fund but the medium-term objective is to make the opportunities work for our clients. Expectations need to be set.

Since before the GFC, after the top five drawdowns (falls in price) in the Fund, the following 18 months more than recovered those losses. We need prudent amounts of risk so we're not forced liquidators of credits and with ample liquidity to buy assets on the cheap. It has enabled us to recover more than the temporary marks down.

Source: Neuberger Berman, as of 31 March 2022

GH: Do you own any Australian securities?

AG: Not today in the Strategic Income Fund but it has been a market we've used in the past. In looking for compelling relative value on a global basis, the portfolio is anchored on the US market given the macro environment and the greater growth opportunities versus say Europe, for example.

GH: Does the massive strength of the US dollar, now at parity with the Euro, influence your positioning?

AG: No, currency is not a big part of how we reach our objectives. It’s more about bond returns and relative value opportunities

GH: Looking at aggregate fund flows in fixed interest, we’ve seen outflows globally in the June 2022 quarter. What was your experience, and do you find it a little frustrating that when there is finally some value in fixed income, investors leave the sector?

AG: Well, I let the market determine where capital goes, but it is frustrating when we think there's good value after a painful readjustment process. We recognise the path to that value has been painful for some clients. We’ve been fine on flows, we have a long history of managing daily traded vehicles and we respect the needs of clients to adjust their asset allocations.

GH: Many active manages talk about downside protection. What are the key steps in 2022 and 2023?

AG: We're entering a period of below-trend growth, a coin toss on recession, with policy volatility. We need to get the fundamentals right and credit selection and managing risk budgets and liquidity are big parts. When the yield is close to 7% on A-minus quality, that is accruing strong income which will be a major component of returns.

GH: Can I understand better where this 7% comes from? It’s higher than my top-of-mind understanding of where yields are. What are the securities included?

AG: Let’s start with the US aggregate bond index, leaving aside global for a simple reference. It includes only investment grade securities and that's yielding (on a so-called ‘yield to worst’) today 3.7%. Treasuries are at 3.1%, securitised products like mortgages are 4.5% to 5%. Investment grade corporate debt is yielding upper 4%, close to 5%. Then depending on where you go in corporates, different levels of maturity and quality stack, into diversified, non-investment grade offering today a yield around 8.5%, a spread over government bonds of 5.5%.

A lot of the return is coming from the massive correction in Treasury yields. It’s not hard to construct a quality portfolio earning 5.5% in investment grade assets, and 7% in a broader portfolio.

For more detail, see Neuberger Berman’s Q3 fixed income outlook.


Graham Hand is Editor-At-Large for Firstlinks. Adam Grotzinger is a Senior Portfolio Manager for Neuberger Berman’s Strategic Income Fund.

Neuberger Berman is a sponsor of Firstlinks. This article is general information and does not consider the circumstances of any investor. Nothing herein constitutes investment, legal, accounting or tax advice, or a recommendation to buy, sell or hold a security.

For more articles and papers by Neuberger Berman, please click here.



Interview: How markets saved companies with zero revenues

The RBA’s QE losses

It’s time to reveal the 2021 X-Factor in investment markets


Most viewed in recent weeks

2024/25 super thresholds – key changes and implications

The ATO has released all the superannuation rates and thresholds that will apply from 1 July 2024. Here's what’s changing and what’s not, and some key considerations and opportunities in the lead up to 30 June and beyond.

The greatest investor you’ve never heard of

Jim Simons has achieved breathtaking returns of 62% p.a. over 33 years, a track record like no other, yet he remains little known to the public. Here’s how he’s done it, and the lessons that can be applied to our own investing.

Five months on from cancer diagnosis

Life has radically shifted with my brain cancer, and I don’t know if it will ever be the same again. After decades of writing and a dozen years with Firstlinks, I still want to contribute, but exactly how and when I do that is unclear.

Is Australia ready for its population growth over the next decade?

Australia will have 3.7 million more people in a decade's time, though the growth won't be evenly distributed. Over 85s will see the fastest growth, while the number of younger people will barely rise. 

Welcome to Firstlinks Edition 552 with weekend update

Being rich is having a high-paying job and accumulating fancy houses and cars, while being wealthy is owning assets that provide passive income, as well as freedom and flexibility. Knowing the difference can reframe your life.

  • 21 March 2024

Why LICs may be close to bottoming

Investor disgust, consolidation, de-listings, price discounts, activist investors entering - it’s what typically happens at business cycle troughs, and it’s happening to LICs now. That may present a potential opportunity.

Latest Updates


20 US stocks to buy and hold forever

Recently, I compiled a list of ASX stocks that you could buy and hold forever. Here’s a follow-up list of US stocks that you could own indefinitely, including well-known names like Microsoft, as well as lesser-known gems.

The public servants demanding $3m super tax exemption

The $3 million super tax will capture retired, and soon to retire, public servants and politicians who are members of defined benefit superannuation schemes. Lobbying efforts for exemptions to the tax are intensifying.


Baby Boomer housing needs

Baby boomers will account for a third of population growth between 2024 and 2029, making this generation the biggest age-related growth sector over this period. They will shape the housing market with their unique preferences.

SMSF strategies

Meg on SMSFs: When the first member of a couple dies

The surviving spouse has a lot to think about when a member of an SMSF dies. While it pays to understand the options quickly, often they’re best served by moving a little more slowly before making final decisions.


Small caps are compelling but not for the reasons you might think...

Your author prematurely advocated investing in small caps almost 12 months ago. Since then, the investment landscape has changed, and there are even more reasons to believe small caps are likely to outperform going forward.


The mixed fortunes of tax reform in Australia, part 2

Since Federation, reforms to our tax system have proven difficult. Yet they're too important to leave in the too-hard basket, and here's a look at the key ingredients that make a tax reform exercise work, or not.

Investment strategies

8 ways that AI will impact how we invest

AI is affecting ever expanding fields of human activity, and the way we invest is no exception. Here's how investors, advisors and investment managers can better prepare to manage the opportunities and risks that come with AI.



© 2024 Morningstar, Inc. All rights reserved.

The data, research and opinions provided here are for information purposes; are not an offer to buy or sell a security; and are not warranted to be correct, complete or accurate. Morningstar, its affiliates, and third-party content providers are not responsible for any investment decisions, damages or losses resulting from, or related to, the data and analyses or their use. To the extent any content is general advice, it has been prepared for clients of Morningstar Australasia Pty Ltd (ABN: 95 090 665 544, AFSL: 240892), without reference to your financial objectives, situation or needs. For more information refer to our Financial Services Guide. You should consider the advice in light of these matters and if applicable, the relevant Product Disclosure Statement before making any decision to invest. Past performance does not necessarily indicate a financial product’s future performance. To obtain advice tailored to your situation, contact a professional financial adviser. Articles are current as at date of publication.
This website contains information and opinions provided by third parties. Inclusion of this information does not necessarily represent Morningstar’s positions, strategies or opinions and should not be considered an endorsement by Morningstar.