LPL Street View: Know Your Fixed-Income Exposure

Market Strategy Blog Posted by lplresearch

Thursday, July 1, 2021

We believe one of the biggest mistakes investors can make is not adequately understanding the risk they are potentially taking in their fixed-income portfolios.  This is perhaps particularly true today, as the prevailing low-interest-rate environment has caused investors to increasingly seek exposures in higher-yielding fixed-income securities.  The problem is that while returns in these higher-yielding securities (what we call “non-core” bonds) can be attractive, they often carry higher degrees of risk and higher correlations with the equity market.  What does that mean?  Well, in times of higher market stress, some of these bond segments can act more like stocks than they do bonds.

We often find ourselves warning investors to be cognizant of exposures to those non-core bond segments that do not provide an adequate buffer against equity risk.  Segments such as U.S. corporate high yield, emerging market debt, bank loans, and non-agency mortgage debt can be nearly as volatile as equities at the most inopportune times (think March 2020).  Instead of relying too heavily on these segments, we believe investors should ensure adequate exposures to “core” bond segments (like those in the Bloomberg Barclays U.S. Aggregate Bond Index). These core segments may act as better buffers against higher-risk portions of the portfolio.

“One of the most important pieces of advice we can give to investors, especially those that have material equity exposure in their portfolios, is to ensure that the bonds they own act like bonds when markets endure spikes in volatility.  We believe the first step in this is to understand how much non-core bond exposure they have and to set limits on that relative to the rest of their fixed-income portfolio,” explained LPL Financial Director of Research Marc Zabicki.

In our view, one way to ensure bond exposure is adequately balanced is to set a limit on the amount of non-core bond exposure one is allowed.  At LPL Research, our tactical limit on non-core bond exposure is 25% of our total bond portfolio in most cases.  For some investors, this limit may vary, depending on personal income and return needs.  However, such a governor on your portfolio may be a good way to improve your understanding of your personal bond exposures and keep your total portfolio risk profile tightly managed.  In today’s market, with bond spreads at historically low levels (as shown below), we believe it is a good time to double-check your bond portfolio and guard against the unintended consequences that may be lurking as a result of excessive non-core bond exposure.

See enlarged chart.

For more of our thoughts on this, please watch our latest LPL Street View below with Marc. You can watch it below or directly from our YouTube Channel.


This material is for general information only and is not intended to provide specific advice or recommendations for any individual. There is no assurance that the views or strategies discussed are suitable for all investors or will yield positive outcomes. Investing involves risks including possible loss of principal. Any economic forecasts set forth may not develop as predicted and are subject to change.

References to markets, asset classes, and sectors are generally regarding the corresponding market index. Indexes are unmanaged statistical composites and cannot be invested into directly. Index performance is not indicative of the performance of any investment and do not reflect fees, expenses, or sales charges. All performance referenced is historical and is no guarantee of future results.

Any company names noted herein are for educational purposes only and not an indication of trading intent or a solicitation of their products or services. LPL Financial doesn’t provide research on individual equities. All information is believed to be from reliable sources; however, LPL Financial makes no representation as to its completeness or accuracy.

All index data from Bloomberg.

This Research material was prepared by LPL Financial, LLC.

Securities and advisory services offered through LPL Financial (LPL), a registered investment advisor and broker-dealer (member FINRA/SIPC).

Insurance products are offered through LPL or its licensed affiliates.  To the extent you are receiving investment advice from a separately registered independent investment advisor that is not an LPL affiliate, please note LPL makes no representation with respect to such entity.

  • Not Insured by FDIC/NCUA or Any Other Government Agency
  • Not Bank/Credit Union Guaranteed
  • Not Bank/Credit Union Deposits or Obligations
  • May Lose Value
View All Posts