So says Robert da Silva, Managing Director, Asia-Pacific Fixed Income, Principal Global Investors. “A number of themes have emerged in the massive shift that has occurred – and is continuing to occur – post-GFC, turning some of the accepted notions of fixed income investing on their head,” he said.

“It’s important for investors to stay in tune with these shifts and changes and think through their implications, both for their broader portfolios in the way assets are allocated and diversified within the fixed income space.” Some of the key changes Mr da Silva cited are: 

1.  A move away from government or sovereign debt.

“The old idea of government bonds being 100 per cent safe has been turned on its head in the wake of the peripheral European crisis and in the face of the looming debt ceiling deadline in the USA, and its potential to lead to a downgrade. While a Congressional vote to lift the ceiling is likely, the situation has thrown into question the accepted ‘guaranteed risk-free’ status of US Treasuries,” said Mr da Silva.

This situation is linked to one of the key post-GFC themes: the massive shifting of debt from the private sector into government, which leads to the next change.

2. Increased appeal of corporate, or private, debt.

While government has been taking on a greater debt burden, corporates have spent the years since the GFC intensively deleveraging and divesting themselves of non-performing businesses and assets.

“High yield default rates are continuing to fall and the corporate sector is in many respects sounder and more prudent than its public counterpart,” Mr da Silva explained.

Mr da Silva pointed out that this is particularly evident in the credit default swap market, where the cost of insuring government debt has soared – from two basis points for $5 million in US Treasuries pre-GFC to some 53 basis points today.

“We now find ourselves in the unprecedented situation where there are 29 companies with lower credit default swap spreads than for the US Sovereign: IBM, McDonalds, Walt Disney, Wal-Mart and UPS, just to name a few.” 

3. Equities: no longer the only growth asset?

“When you look at the past 10 years in the United States, the S&P 500 has barely moved,” said Mr da Silva.

“We are looking at 1372.71 at end-June 1999 to 1320.64 at end-June 2011, a return of -0.32% each year for 12 years. These are ex-dividend figures, but even including dividends only brings the return to +1.50%, well behind 3 month T-Bills (+2.58%) and consumer inflation (+2.54% p.a.). I think this should call into question some of the generally held underlying assumptions about long term growth assets.

So, what does all this mean for the fixed income investor?

“An intelligent approach is to insulate the portfolio from the downside and focus on the opportunities,” said Mr da Silva.  

“We suggest closer involvement in the credit market, looking at corporate, high yield and emerging market assets in particular, with an eye out for the right asset-backed and credit-backed securities. This is particularly the case in the light of what’s happening with commercial property in the United States, which is coming back, with commercial-mortgage-backed securities still priced relatively cheaply despite yields coming down a bit recently.”

The second feature to look out for is duration – specifically, shorter term.

“We are looking at shorter durations in order to hedge against concerns about inflation and rate rises on the horizon, so we can minimize the damage should that occur.

“Again this is a departure from conventions where investors generally would look at longer bond funds, and again this is what we believe is required to succeed in the new environment. It’s all about staying alert and informed, and acting strategically.”

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