Investors Flood Out of Bonds, Further Sell-Offs Possible

Data from the Investment Management Association has revealed a £1.7 billion outflow from institutional investors in June 2013.

(July 31, 2013) — UK institutional investors have mirrored their retail counterparts and flooded out of fixed income funds, fearing the threat of interest rate spikes.

According to figures from the Investment Management Association (IMA), a £1.7 billion outflow was recorded from institutional investors in fixed income funds in the month of June alone.

The IMA’s figures for fund sales cover institutional sales of UK authorised unit trusts and open ended investment companies (OEICs). The figures do not include investment trusts and ETFs.

Earlier this month, BlackRock revealed that institutional investors had pulled a net $1.3 billion from active fixed-income products during the last quarter.

BlackRock’s chief executive and chairman, Laurence Fink, told the Wall Street Journal that the company had been forced to spend much more time reassuring investors concerned about their fixed-income investments.

As to where investors should be putting their new-found cash hoardings, Fraser Lundie, co-head of credit at Hermes and manager of the Hermes’ global high yield bond fund, has suggested opting for further flung fixed income products to maximise levels of liquidity and valuation opportunities.

“Investing within a narrow mandate, either geographically or in terms of security type, increasingly exposes the investor to the fixed income fund flow volatility that will inevitably be prevalent in a volatile interest rate environment,” he said.

“For many, including us at Hermes Credit, this means investing globally, across the capital structure and across debt instruments.”

According to a recent credit research note issued by Barclays, high yield managers with global mandates are mushrooming, with total net assets doubling over the past two years to $170 billion, roughly seven times the size of the dedicated European high yield mutual fund asset base. 

Lundie claimed this push for global mandates could accelerate as investors begin to appreciate the structural advantages such an approach provides.

“If the early summer selloff proves to be a warning sign for further interest rate induced volatility, we expect these valuation and liquidity headwinds to remain, and the trend toward broader, more flexible investing to increase,” he added.

Future bond sell-offs were also discussed at a Threadneedle Investments briefing on July 31. CIO Mark Burgess told journalists that tapering of quantitative easing (QE) could lead to further outflows, although this could be anchored by forward guidance missives from the Federal Reserve.

Head of multi-asset Toby Nangle also hinted at the challenge QE could present to risk parity funds. He told journalists that we can no longer take the strong negative correlation between bonds and equities for granted, and that fixed multi-asset approaches which hard-code the expected diversification benefits of fixed income look “vulnerable”.

Threadneedle currently favours currency-hedged Australian, Nordic, and some emerging market bonds, along with credit (especially emerging market debt and corporate high yield), commercial property, equity, and commodities.

Related Content: Where Your Bond Duration Comes from (and Why It Matters) and Is Levering Ever Worth It?