Are all fixed income assets created equal?

Fund manager Will McIntosh-Whyte shares the (pretty open) secrets that underpin how the Rathbone Multi-Asset Portfolio Funds are put together, and discusses why not all fixed income assets are created equal.

By 10 September 2019

What are the dangers that lurk within traditional asset allocation?

You have to look beyond the traditional high-level asset class splits in portfolios to provide real diversification and manage risk. Equities and assets that correlate with equities in stressed markets, need to be balanced with true safe haven assets to offer real diversification. Not all fixed income assets are created equal – you don’t want to find that out the hard way when markets slump. It is vital to assess portfolios from this perspective, particularly in a world where investors are being forced to reach for yield.

We classify assets by evaluating how liquid we expect them to be as well as their expected correlation to equities when markets are stressed. We call this our liquidity, equity risk, diversifiers (LED) framework. Rather than spreading our portfolio across many different classes of assets to get a shotgun-style diversification, we analyse assets carefully to categorise them as one of three types.

Liquidity assets must be able to be sold quickly when markets slump without us having to cut the price. We also have to be sure that the asset is – and will remain – something that investors will seek when markets slump, which should increase its value during those rocky periods. Equity risk assets are shares and other assets – including corporate bonds and specialist funds – that move in a similar way to stock markets, especially in risk-off markets. Diversifiers behave in very different ways to stock markets, lowering the overall volatility of our fund, yet the assets may at times be harder to sell.

How can investors ensure they know what risks they are exposed to?

Our multi-asset funds have clear and unambiguous targets for risk and return. This way, investors know exactly what we’re trying to deliver and they can judge us on how we are doing.

People need funds that help them plan for the future, which is why our return targets are fixed percentages above inflation/short-term interest rates. Depending on how long investors are willing to invest and their risk appetite, they can invest in our lower-risk fund (Rathbone Total Return) our moderate-risk fund (Rathbone Strategic Growth) or higher-risk fund (Rathbone Enhanced Growth). We also have Rathbone Strategic Income Portfolio, a moderate-risk fund that offers monthly income payments. Our risk targets are just as important as our return targets. They give clients clear expectations around volatility and how much risk each fund will take on.

Whereas risk-rated funds view risk as static, risk-targeted funds are forward-looking and dynamic in approach. We target volatility as a proportion of the movements of the wider equity market. Relative volatility targets makes most sense as it allows us to manage the funds more effectively during turbulent markets. Absolute volatility targets can force managers to make changes – making them forced sellers – at the worst possible times. Our relative volatility targets also give investors a helpful rule of thumb for the sort of short-term losses they should expect, relative to wider market falls.

How can you protect a portfolio when all major asset classes are falling in value?

We believe our LED framework helps us manage risk more effectively because it forces us to focus on correlations – on how assets move relative to each other. Typically, government bonds are a good source of protection for a portfolio, but today they are very expensive. Sometimes there are actually more efficient and cost-effective ways of protecting portfolios.

We also can’t always take these correlations for granted. Just because something worked in the past, doesn’t mean it will always be so, and we have seen several periods in the last few years where rising bond yields have caused a sell off in risk, and the majority of assets have sold off at the same time. In these scenarios, we can use other instruments such as put options, or bespoke structured products that can actually benefit from rising bond yields in order to protect ourselves from significant drawdowns. And of course there is always cash.

Why do you invest directly rather than as a fund of funds?

Most of our holdings are stocks and bonds that we have chosen ourselves because we are very particular about the kind of assets we want to own. This gives us the precision we need to most effectively manage risk and seek opportunities. Investing directly also helps reduce costs for our investors.

We currently prefer stocks with reliable earnings and steady, sustainable growth that are driven by specific industry or technological trends, rather than simply riding economic growth. Bonds should be backed by strong cash flows, have robust investor protections and appropriate yields for the risk taken.

Can you explain how you rebalance the portfolios? How often is this done?

We can trade whenever we wish. That doesn’t mean we are constantly meddling and tweaking! It all depends on how prices move and the best way for us to keep our portfolios in appropriate ranges. Some funds save on costs by rebalancing at exactly the same time once a month. We think this is a false economy: What is saved on trading costs is lost many times over in opportunity costs.

Our flexibility means we can take advantage of large and irrational price swings that may occur within a month – sometimes even within a day. Following the referendum, panic ensued in property funds and prices sunk quickly as investors fled. This created a fantastic opportunity in REITs – these listed property funds were sold so aggressively that their share prices were much, much lower than the value of the actual properties they owned. Because REITs are listed, they never have to fire-sell assets to give frightened fund-holders their cash back. We therefore felt the discounts provided a huge margin of safety against any ensuing weakness in the property market, and were happy to buy into the panic. If you only trade every month – or if you had to wait to agree the trade by committee – then you would have missed this opportunity.

Has your performance met both your risk and return objectives?

Yes! Since inception all of our funds have hit their return and risk targets.


This is a financial promotion relating to a particular fund range. Any views and opinions are those of the manager, and coverage of any assets held must be taken in context of the constitution of the fund and in no way reflect an investment recommendation. Past performance should not be seen as an indication of future performance. The value of investments may go down as well as up and you may not get back your original investment.