Fixed income as a growth asset: Unlocking long-term returns | Insight Investment

"Higher absolute yields and steeper yield curves mean fixed income is no longer just a defensive asset. With the right strategies, it can serve as a powerful growth engine, delivering long-term returns through the compounding impact of reinvesting of income, and strategic allocation to seek out alpha opportunities."

Rethinking the role of bonds in modern portfolios

Fixed income has traditionally been viewed as a defensive asset class – ideal for capital preservation and income generation. But in today’s environment of elevated yields and steeper yield curves, we have observed that this perception is rapidly evolving. This paper explores how fixed income can serve as a strategic growth engine, delivering long-term returns through compounding, active management, and global diversification.

Why fixed income deserves a fresh look

• Higher yields, greater potential: With absolute yields at multi-year highs, we believe fixed income offers a compelling opportunity, with the potential for returns that can rival historical equity returns.
• Compounding power: Reinvested coupon payments can generate exponential growth, especially in high-yield environments.
• Lower volatility: Compared to equities, asset classes such as high yield credit have historically exhibited lower volatility and more moderate drawdowns.

Strategic levers for growth

• Yield and duration management: Understanding the interplay between income generation and interest rate sensitivity is key to unlocking capital gains.
• Reinvestment strategies: Techniques like laddering, barbell strategies, and rolling portfolios help compound returns over time.
• Active management advantage: Skilled managers have the potential to exploit inefficiencies in fixed income markets to outperform passive benchmarks – through issuer selection, duration shifts, and sector rotation.

Strategies with the potential to generate equity-like returns in fixed income

• High-yield credit: Bonds issued by lower-rated companies can offer elevated yields, with default risk potentially mitigated through strategies such as shorter maturities, active management, and selective credit analysis.
• Fallen angels: Bonds downgraded from investment grade can often rebound after an initial sharp drop, creating value opportunities.
• Secured finance: Asset-backed securities can offer higher spreads without compromising credit quality and can benefit from structural protections.
• Strategic bond strategies: Flexible approaches that pivot across geographies, sectors, and credit qualities to capture incremental returns.

Risks to consider

While the growth potential is significant, investors must remain mindful of:

• Credit risk
• Interest rate risk
• Liquidity constraints
• Market volatility

Diversification, due diligence, and dynamic portfolio management are essential to mitigate these risks.