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Source: Bloomberg and Morningstar.
One basis point equals 0.01%.
*Rise of 100 bps must have occurred within a 16-month time period.
1 BofA Merrill Lynch High Yield Master II Constrained Index.
2 CS Leveraged Loan Index.
3 BofA Merrill Lynch All Convertible Index.
4 S&P 500 Index.
The historical data are for illustrative purposes only, do not represent the performance of any Lord Abbett mutual fund or any particular investment, and are not intended to predict or depict future results. Indexes are unmanaged, do not reflect the deduction of fees or expenses, and are not available for direct investment. Investors may experience different results. Due to market volatility, the market may not perform in a similar manner in the future.
Past performance is no guarantee of future results. Please refer to “Important Information” regarding the economic indicator data in these charts and index information.
The decades-long trend of falling interest rates has culminated in the current environment of historically low Treasury yields. And considering that many investors have increased their fixed-income allocations in recent years, the latest leg down in yields has raised concerns that the generation of falling interest rates could be approaching an end.
Within the long-term trend of declining rates, certain volatile periods demonstrate the interest-rate risk inherent in high-quality bonds. While periods during which the 10-year Treasury yield rose by 1% or more led to notable losses on the securities, investors also should recognize how the magnitude of these losses has changed. For example, the surge of 253 basis points (bps) that ended in 1994 led to a loss of 9.2% on the 10-year note. But as the general trend of falling rates continued, it only took an increase of 100 bps in 2011 to generate a loss of 10.6%.
In addition to interest-rate risk, high-quality bonds can also expose investors to negative real returns in the current environment. "Low absolute yields, often negative real yields, unattractive spreads, and significant downside price risk if rates do rise make for an ugly combination of investment characteristics for longer-term, high-quality securities," said Zane Brown, Lord Abbett Partner and Fixed Income Strategist.
For example, the 10-year note yielded 1.71% as of December 27, 2012, below the core inflation rate of 1.9% during the past year. This dynamic is also reflected by the negative yield of -0.80% on the 10-year Treasury inflation-protected security as of December 27, 2012.
Investors who are looking to mitigate the risks from rising interest rates and negative real returns, however, do not need to abandon their fixed-income holdings. Indeed, rising interest rates generally accompany an economic expansion, which can support credit-sensitive asset classes, and have historically led to performance that is competitive with equity returns.
As interest rates surged during the period that ended in 1994, equities returned 1.8%. Meanwhile, high-yield bonds and floating-rate loans posted returns of 1.2% and 13.4%, respectively, and convertible bonds posted a slight loss. Even as high-quality bonds have become more susceptible to even moderate increases in interest rates, such as the one that occurred in 2011, credit-sensitive asset classes have also posted impressive returns during these periods.
IMPORTANT INFORMATION
All links are directed to Lord Abbett’s website.
Past performance is no guarantee of future results. Current performance may be higher or lower than the performance data quoted. All indexes are unmanaged and do not reflect reinvestment of dividends and distributions, deduction of management fees, or operating expenses. An investor cannot invest directly in an index.
Investors should consult with a financial advisor on the strategy best for them based on their individual goals, risk tolerance, and investing time horizon.
Neither diversification nor asset allocation can guarantee a profit or protect against loss in declining markets.
A Note about Risk: The value of investments in equity securities will fluctuate in response to general economic conditions and to changes in the prospects of particular companies and/or sectors in the economy. The value of investments in fixed-income securities will change as interest rates fluctuate. As interest rates fall, the prices of debt securities tend to rise, and as interest rates rise, the prices of debt securities tend to fall. Investments in high-yield securities (sometimes called junk bonds) carry increased risks of price volatility, illiquidity, and the possibility of default in the timely payment of interest and principal. Income from municipal securities may be subject to the alternative minimum tax. Federal, state, and local taxes may apply. There is a risk that a bond issued as tax-exempt may be reclassified by the IRS as taxable, creating taxable rather than tax-exempt income. Bonds may also be subject to other types of risk, such as call, credit, liquidity, interest-rate, and general market risks. No investing strategy can overcome all market volatility or guarantee future results.
Foreign securities generally pose greater risk than domestic securities, including greater price fluctuations and higher transaction costs. Foreign investments also may be affected by changes in currency rates or currency controls. With respect to certain foreign countries, there is a possibility of nationalization, expropriation, or confiscatory taxation, imposition of withholding or other taxes, and political or social instability that could affect investments in those countries. The securities markets of emerging countries tend to be less liquid, to be especially subject to greater price volatility, to have a smaller market capitalization, and to have less government regulation, and may not be subject to as extensive and frequent accounting, financial, and other reporting requirements as securities issued in more developed countries. Further, investing in the securities of issuers located in certain emerging countries may present a greater risk of loss resulting from problems in security registration and custody or substantial economic or political disruptions. Foreign currency exchange rates may fluctuate significantly over short periods of time. They generally are determined by supply and demand in the foreign exchange markets and relative merits of investments in different countries, actual or perceived changes in interest rates, and other complex factors. Currency exchange rates also can be affected unpredictably by intervention (or the failure to intervene) by U.S. or foreign governments or central banks, or by currency controls or political developments.
While municipal bonds are backed by municipalities, U.S. government securities, such as U.S. Treasury bills, are considered less risky since they are backed by the U.S. government. High-yielding, non-investment-grade bonds (junk bonds) involve higher risk than investment-grade bonds. Adverse conditions may affect the issuer’s ability to pay interest and principal on these securities.
Although U.S. government securities are guaranteed as to payments of interest and principal, their market prices are not guaranteed and will fluctuate in response to market movements.
The credit quality ratings of the securities in a portfolio are assigned by a nationally recognized statistical rating organization (NRSRO), such as Standard & Poor’s, Moody’s, or Fitch, as an indication of an issuer’s creditworthiness. Ratings range from AAA (highest) to D (lowest). Bonds rated BBB or above are considered investment grade. Credit ratings BB and below are lower-rated securities (junk bonds). High-yielding, non-investment-grade bonds (junk bonds) involve higher risks than investment-grade bonds. Adverse conditions may affect the issuer’s ability to pay interest and principal on these securities. Credit quality distributions breakdown is not an S&P credit rating or an opinion of S&P as to the creditworthiness of the portfolio.
The S&P 500® Index is a market capitalization-weighted index of common stocks.
The S&P 500® Index Excluding Financials is a subset of the S&P 500 Index that excludes the financial sector.
The opinions in Market View are as of the date of publication, are subject to change based on subsequent developments, and may not reflect the views of the firm as a whole. The material is not intended to be relied upon as a forecast, research, or investment advice, is not a recommendation or offer to buy or sell any securities or to adopt any investment strategy, and is not intended to predict or depict the performance of any investment. Readers should not assume that investments in companies, securities, sectors, and/or markets described were or will be profitable. Investing involves risk, including possible loss of principal. This document is prepared based on the information Lord Abbett deems reliable; however, Lord Abbett does not warrant the accuracy and completeness of the information. Investors should consult with a financial advisor prior to making an investment decision.
Investors should carefully consider the investment objectives, risks, charges, and expenses of the Lord Abbett funds. This and other important information is contained in the Fund’s summary prospectus and/or prospectus. To obtain a prospectus or summary prospectus on any Lord Abbett mutual fund, contact your investment professional or Lord Abbett Distributor LLC at 888-522-2388, or visit us at www.lordabbett.com. Read the prospectus carefully before investing.
Shares of Lord Abbett mutual funds are not deposits or obligations of any bank, are not guaranteed by any bank, are not insured by the FDIC or any other agency, and involve investment risks, including the possible loss of the principal amount invested.
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