As financial markets adjust to the new normal of higher interest rates, elevated market volatility, and raised asset valuations, investors face the challenge of finding the optimal risk/reward balance in their portfolios.
While market consensus points to rate cuts on the horizon, predicting exactly when and how dramatic those cuts will be is difficult, making duration exposure one of the toughest decisions facing fund selectors today. This has led many to leave assets on the sidelines in cash until the path forward becomes clearer. However, that can leave uninvested clients missing out on market returns.
Investing those assets in high-quality short duration strategies can help rectify that problem. According to the 2024 Natixis Global Fund Selector Outlook Survey, 61% of respondents say they are using short-term ETFs to counter duration risk. However, not all short duration strategies are created equal.
In fact, there can be significant variation between short-term bond strategies. Volatility brought on by fluctuating interest rates, inflation concerns, and geopolitical risks over the past several years should serve as a reminder about the importance of balancing goals to seek higher relative returns while also managing risk.
One solution may be to choose an active fixed income manager. A fixed income manager who is disciplined in maintaining their short-duration posture and invests primarily in investment-grade bonds, while incorporating a robust risk management process that seeks to protect investors during market downturns, as well as reward them in more stable environments.
Here are three questions potential short-duration bond investors should be asking now, and why an ETF like the Natixis Loomis Sayles Short Duration Income ETF (LSST) could make sense for the current market landscape:
1. Does it pay to move cash into short-term bonds?
Yields across fixed income have shifted higher along with interest rates, but the Treasury yield curve has become inverted. As a result, cash-like investments such as money markets and T-Bills can offer higher annualized yields than longer duration securities. But what happens when interest rate cuts begin and the yield curve normalizes? Over recent Fed rate-cutting cycles, the total return from short-term government/credit strategies has materially outperformed their money market counterparts due to price appreciation and yield spread capture.