Days of hedging risk with bonds are over, says JP Morgan
For European securities due in 15 years or more, the return assumption is minus 0.8 per cent.
Over the next decade, alternatives such as private equity and real assets could help juice returns the firm sees draining away from portfolios that allocate 60 per cent to stocks and 40 per cent to bonds.
Strategists at the $2.2 trillion asset manager downgraded their long-term return targets for bonds as well as risk-parity strategies that rely on fixed-income as the safety valve for stock risk. In a presentation in London Tuesday, they predicted bond yields will remain depressed as global growth languishes around 2 per cent over the next 10 to 15 years.
“We are in late cycle, in what appears to be slowing growth environment,” said John Bilton, head of global multi-asset strategy at JPMorgan Asset Management during a press briefing. “Returns in equities, credit and alternative assets are available, but the days of simply insulating exposure of risky assets with an allocation to bonds are over.” So-called 60/40 portfolios are on a tear this year, riding the central bank-fueled rally in risk assets and bonds. But rich valuations are sparking fears pension funds and the like are facing years of meagre returns — spurring a hunt for alternative assets. And with a quarter of the world's global bonds offering negative yields, fixed-income has started to look like a costly hedge.
“Investors must reassess how to design the optimal portfolio,” said Bilton. “The trade-off is no longer between foregone risky asset returns and reduced portfolio risk, but instead between a zero or even negative return in exchange for risk reduction.”
JPMorgan Asset’s long-term target for US 10-year debt is 2.4 per cent, compared with last year's estimate of 3.5 per cent. For European securities due in 15 years or more, the return assumption is minus 0.8 per cent.
By contrast, the firm’s strategists upgraded their forecast for private equity returns to 8.8 per cent from 8.25 per cent. Of course, supplanting fixed-income in a diversified portfolio doesn't come without risks — capital, income and liquidity to name a few, according to Karen Ward, chief market strategist for EMEA at JPMorgan Asset. Investors must accept there's a trade-off, she said Tuesday. “There is no such thing as a free lunch these days,” Ward said. “Let's not pretend at all that anything offering additional return doesn't come with additional risk. It's about understanding what that risk is.”