FIXED INCOME FOR TACTICAL ASSET ALLOCATION

Case studies are for illustrative purposes only; they are not meant as a guarantee of any future results or experience, and should not be interpreted as advice or a recommendation.

Capital at risk. The value of investments and the income from them can fall as well as rise and are not guaranteed. Investors may not get back the amount originally invested.

The buyer

An asset manager, looking to re-risk in rapidly changing market conditions, targeting emerging markets

The background

Following the market selloff in March 2020, an asset manager held the view that USD-denominated emerging market debt had been oversold (the J.P. Morgan EMBI Global Core index saw a drawdown of -22.4% between 24 February and 19 March 2020*), and that the selloff had been exaggerated by a drop in liquidity in underlying bond markets. The investor wanted to add risk on a tactical basis, in an instrument that was sufficiently liquid to facilitate a large trade size.

The challenge

The price dislocations in March 2020 across the fixed income markets presented opportunities to many investors in areas including emerging markets.

The traditional approach

Typically, the asset manager would use a derivative to implement such a sizable allocation.

The fixed income ETF approach

The Emerging markets ETF tracking the benchmark J.P. Morgan EMBI Global Core Index was preferable to the investor relative to the derivative alternative. The investor was comforted by the liquidity of the ETF during the volatile weeks of February and March 2020, the cost-effective execution relative to trading the underlying bonds and the broad exposure to the asset class. They made a short-term allocation of US$210 million notional to iShares emerging markets bond ETF.

Opportunities with emerging marketing bonds as Emerging markets ETF credit spread widened
Emerging markets ETF credit spread

Opportunities with emerging marketing bonds as IEMB’s credit spread widened

Source: BlackRock, Bloomberg (as of 31 May 2020).
For illustrative purposes only.

This material is not intended to be relied upon as a forecast, research or investment advice, and is not a recommendation, offer or solicitation to buy or sell any securities or financial product or to adopt any investment strategy. The opinions expressed are as of 13 October 2020 and may change as subsequent conditions vary.

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