Investment and Retirement

On the radar: SSQ CI Signature Corporate Bond GIF

Many investors, especially those nearing retirement, don't know how to obtain the income they need without taking too much risk. How do fund managers manage to generate income without increasing risk?

WHY CORPORATE BONDS?

When interest rates are as low as they currently are, fixed-income fund managers have three possible strategies to improve returns:

• Extend the duration of the investments.

• Allocate a larger share of the investments to foreign bonds.

• Increase the fund's exposure to high yield bonds.

Each of these strategies has its advantages and disadvantages.

Extended duration

A "normal" yield curve is ascending, meaning that there is a positive relationship between the term to maturity and interest rates. In the vast majority of cases, the longer it takes for a bond to mature, the higher the yield. Thus, a manager could simply replace a portion of short-term bonds with longer-term ones to increase the yield of the fund. However, this also increases duration risk. Lower yields to maturity come with greater price sensitivity for a given term, which means that a change in interest rates has a higher impact on the portfolio. While this is a desirable effect if yields to maturity decrease, any increase in yields to maturity will result in a more significant drop in the value of the portfolio. Since it seems likely that there will soon be upward pressure on interest rates, this strategy is probably not the best in the current economic situation.

Foreign bonds

Bond yields in developed countries around the world have declined to historically low levels. For some countries, including Switzerland and Japan, 10-year bonds even offer negative yields! Nevertheless, the foreign bond markets offer some good opportunities. It may therefore be possible for a manager to sell off lower-yielding bonds and replace them with higher-yielding foreign bonds―although this introduces a new variable: currency risk. Hedging for currency may help mitigate this risk, however, it’s not an exact science.  That said, when it comes to high-yield and corporate bonds, there are many more investment opportunities in the U.S. than in Canada, so It’s best to look south for these types of bonds.

High-yield corporate bonds

In the corporate bond market, higher yields mean higher credit risk. This increased risk may be acceptable if the economic outlook is positive and if corporate earnings are expected to grow. A manager must therefore thoroughly analyze the companies to include in the portfolio, since an uncertain outlook would lead to widening credit spreads and increased default risk.

The SSQ CI Signature Corporate Bond GIF invests primarily in a thoroughly diversified portfolio (including high-yield bonds) that can be adjusted based on economic conditions, potentially increasing total yield while decreasing volatility and credit risk. This tactical approach may be interesting when trying to generate higher yields.

Including the SSQ CI Signature Corporate Bond GIF in a diversified portfolio is a great opportunity to increase your income.

RETURNS AND VOLATILITY OF THE SSQ CI SIGNATURE CORPORATE BOND GIF

Fund category (CIFSC): High-yield fixed-income

Over a period of 10 years, the fund generated returns similar to those obtained by equities with a much lower risk (as shown by the standard deviation of returns).

For more information on the SSQ CI Signature Corporate Bond GIF click here.

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