Investors thinking they are softening their risk bets by tapping into the growing glut of high yield bond ETFs need to be made more aware of the long-term challenges.
That is according Lyxor’s head of ETF strategy, Adam Laird, who made the comments at a conference in London.
Laird said it’s tough for investors at the moment as they have had to adapt to lower interest rates by looking at their position on the risk curve.
‘They have also had to switch positioning in order to receive the cash flow that they require. But, of course, there are risks.
‘The big growth areas in ETFs have been high yield bonds, so riskier debt does have the ability to pay higher returns, you are still able to receive a semi-reasonable return from high yield.’
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However, Laird said he is not convinced that this is the right answer for a lot of investors, as the world has been in a period where there hasn’t been much in the way of defaults on debts.
'Investors need to be mindful of quality, as when companies struggle, they need to have the underpinnings to make sure that investors can continue to be paid. This is what investors need to keep in mind whenever they are looking at passive strategies.
'It’s not good enough to look at yield alone. Yield and dividends are about more than just cash flow right now. Because when you look at the long run returns, stock market dividends have been one of the major drivers.'
Laird said dividends, and the ability for companies to produce yield is consistently one of the biggest inputs of market success. He said, even if investors do not need income, there is still good reason to be invested in an income strategy.
'Investors need to consider risk, high yield by itself doesn’t mean a stable ride. If a company ends up cutting its dividend then often the share price will fall and on the whole.
'It means you will get a double whammy of bad events happening at the same time, it’s double the pain.
'You need to be conscious and mindful of the risks you are taking on if you look at equities as a way of generating income. Quality is the foundation, as it’s the structure that if - and when - the next downturn comes means your investments can retain their value.'