Techniques for investing in bonds amid rising interest-rate trend
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AS WE ARE once again in the last couple of months of a year, many investors are trying to set up their portfolios for the next year. It is not easy. The major stock markets around the world, except for China, have been doing well and some investors are be
While I think stock markets have some room to run, they may encounter some volatility, which is not suitable for some investors. The bond market is always another liquid investment alternative.
With global growth forecast to strengthen, and the Fed likely to begin tapering, or reducing, its monetary accommodation next year, interest rates will likely rise.
As for Thailand, many corporations, property and infrastructure funds, and even the government with its mega-projects are increasingly competing for investors’ money.
This borrowing demand will push interest rates up.
Fixed-income investing during an interest rate uptrend is not easy to do. When interest rates go up, bond prices come down because bondholders are getting fixed coupon payments that are now below market rates. For bond investors planning to hold bonds to maturity, even though they will get their principal back, they lose the opportunity to invest their money at higher returns.
Techniques in investing in bonds during a rising interest rate trend:
lInvest in bonds with floating-rate coupons
lSelect bonds that pay high coupons so that the high coupons will compensate for the bond price decline
lInvest in bonds with maturities that have already priced in the interest rate rise, which is very difficult to do unless you are a bond fund manager who follows the market closely
Investment in bonds in Thailand is generally understood, and also practised, as hold-to-maturity. Bond funds sold here also generally have fixed maturities. This lock-up of capital reduces investors’ liquidity.
The lack of diversity in the types of bonds and bond funds sold in the Thai market also limits investors’ ability to select bonds that are well-suited to rising interest rates.
In the past, bond funds sold in Thailand could only invest in investment grade bonds, which carry a low risk of default but coupons that tend to be so low that they do not sufficiently compensate for the loss of capital when interest rates rise.
Beginning on April 1 of this year, however, the Securities and Exchange Commission relaxed restrictions to allow investments in unrated or non-investment grade bonds for accredited investor funds. These funds increase the ability of qualified investors to take higher risks with the prospect of higher returns.
Even though unrated and non-investment grade bonds bear higher credit risk, with careful analysis and bond selection, experienced fund managers may be able to achieve high returns for investors for limited credit risks. And the high coupons of these bonds can cushion investors from times of rising interest rate.
Prominent bond fund management companies, such as Pimco, have set up bond funds suited for the rising rate environment, using names such as income fund.
Besides high-coupon bonds, this fund also invests a good proportion in floating-rate bonds, which will benefit from rising interest rates.
A global bond fund like this will be able to effectively utilise its global resources to pick the best ideas in different bond markets across the globe. With the SEC allowing the set-up of AI funds, very soon Thai investors will be able to invest in such a global bond fund that can yield better results in an increasing interest rate environment.
Kate Hathirat is chief investment |officer of Asset Plus Fund Management
