Portfolio perspectives
Vanguard Perspective
|April 25, 2024
Vanguard Perspective
|April 25, 2024
Each month, you'll have access to the latest insights from our Portfolio Solutions experts to help you address evolving issues that may affect your clients' portfolios.
Vanguard Portfolio Solutions
Vanguard Portfolio Solutions
Duration
The focus of many of your client conversations has probably changed in the first quarter from “should I extend my duration” to “how can I extend duration?” Based on taxable mutual fund and ETF flows during the first quarter of 2024, it’s reasonable to conclude that many of you have decided it’s time to extend duration. In fact, there have been over three times the cash flows moving into active taxable funds/ETFs in the first three months of the year than in the last three years combined (see Figure 1). Most advisors are ready to move from T-bills, but they’re still:
Both circumstances are challenging to navigate because they are highly dependent on the needs of your clients. We’ve found through discussions with advisors that short-dated credit funds/ETFs are a suitable alternative to cash and a palatable solution for many underlying clients. How did we get there? In our role as specialists, we help our financial advisor clients manage their practice and clients by considering a range of outcomes. From there, we discuss risk and opportunity. The risk/reward tradeoff for short-dated credit funds/ETFs looks like a suitable alternative for many advisors, depending how the economic backdrop evolves. Consider these scenarios:
The economic and fixed income environment is nuanced. Outcomes are uncertain, but the opportunity to strategically deploy capital from cash when appropriate is present. Our Portfolio Solutions team is available to take our insights and customize a solution for your clients. If you would like to learn more about Vanguard short-credit funds/ETFs as a transition strategy for your clients, check out this cash-tiering strategy one-pager.
Interest rates
As the market is dealing with the highest interest rates seen in over a decade, corporations may be anticipating “higher for longer.” This year, through March, there has been a significant surge in high-quality debt issuance across maturities—a 36% increase over first-quarter 2023 (see Figure 2).
Tenors |
YTD March 30, 2024 Volume ($M) |
%Vol |
YTD March 30, 2023 Volume ($M) |
%Vol |
---|---|---|---|---|
1.5-3y | 27,950 | 5% | 32,100 | 8% |
Total | 537,845 | 394,890 | ||
3-5y | 80,500 | 15% | 57,575 | 15% |
5-7y | 131,725 | 24% | 95,775 | 24% |
7-10y | 35,080 | 7% | 18,250 | 5% |
10-30y | 178,450 | 33% | 128,015 | 32% |
30y+ | 84,140 | 16% | 63,175 | 16% |
Source: Bloomberg, Inc., as of March 30, 2024.
Despite the market’s expectation for modest easing of monetary policy, companies seem to be positioning themselves for the possibility that higher interest rates might persist for longer than anticipated. In addition, longer-dated maturities are less influenced by the path of the fed funds rate. It’s not surprising, then, that 80% of this year’s issuance has been in maturities of 5+ years. Perhaps the most influential factor driving this increase is the relatively low level of credit spreads (see Figure 3).
According to the ICE BofA index data, investment-grade bond market spreads are around 93 basis points, which is close to the 10th percentile over the past twenty years.
What is keeping spreads tight is the strong demand for investment-grade corporate bonds. In fact, new issues are oversubscribed by a rate of three to one—with three buyers for each bond being issued. This suggests that investors still want to lock in current yields, especially if they think that rates will come down. Major corporations across various industries, such as AbbeyVie, Cisco, and JP Morgan, have seized this opportunity to issue multibillion-dollar debt offerings.
The upcoming U.S. presidential election adds another layer of complexity. Corporations, possibly anticipating prolonged higher rates and seeking to lock in current low spreads, are moving quickly to secure financing ahead of potential election-induced market volatility.
The investment corporate bond market in 2024 has a dual narrative: market expectations reflect upcoming easing monetary policies, even while corporate actions seem to hedge against a scenario where rates stay higher for longer. Corporations’ cautious optimism reflects a desire to capitalize on the current conditions while preparing for future market uncertainty.
For your clients, this represents a landscape filled with both opportunities and the need for strategic foresight. In this environment, Vanguard's active fixed income team has adopted a cautious approach that considers the “higher for longer” possibility. The team engages selectively in the primary market, prioritizing high-quality credit, given strong fundamentals. The team has a more selective approach to lower-quality corporates largely due to their present tight valuations and higher sensitivity to investor risk appetite. This cautious approach positions the team for smart risk-taking so it can capitalize on opportunities as the market environment evolves.
The future is uncertain. But Vanguard’s active fixed income products such as Core Bond Fund Admiral Shares (VCOBX) and Core-Plus Bond Fund Admiral Shares (VCPAX) could provide a solution to help your clients navigate different potential outcomes as the market works out which direction it may go.
Our team of experts can provide an objective perspective on your portfolio construction decisions, validating your choices or uncovering opportunities. Take advantage of our personalized analysis based on your specific concerns or challenges.
For more expert insights, check out:
Notes: