Why it's time to rebalance portfolios as you wait for the Fed pivot

'Look at what you own, dig into it, and diversify your sources of return'

Why it's time to rebalance portfolios as you wait for the Fed pivot

Given how tough this year has been and the fact central banks are still raising interest rates to address inflation, one portfolio manager is recommending that advisors debrief on their fixed income and assets and take time to rebalance.

“The main goal of the central banks is to manage inflation and unemployment, but they have very rough tools,” Phil Mesman, partner and head of fixed income at Picton Mahoney Asset Management, told Wealth Professional. “Coming into the summer, there was a view that the Fed would pivot and start to slow its tightening process as inflation numbers started to improve.

“But, there’s a reinforced hawkishness from the Fed, which means it’s really determined to get inflation and unemployment numbers back in line. It’d rather err on the side of caution and overshoot by a quarter in that process, so the inflation numbers continue to be really strong.”

Read more: What two questions are advisors asking about the bond market? | Wealth Professional

Mesman said that’s why the bond market has been so volatile this year. There have been 10-year bonds at 4% and an inverted yield curve with two-year bonds yielding more than 10-year bonds. He said: “That suggests that the bond market thinks there’s a recession coming.”

While he noted that the market has priced in a lot of the central banks’ anticipated moves and it’s still early to tell, Picton Mahoney’s analytics suggest that some inflation is starting to turn, even though parts of it – such as rents – are still very stubborn and the banks remain very data dependent.

So, while it’s been a very difficult year for advisors with both equities and bonds, and the correlations have broken down, he recommended they debrief on their fixed income and assets since tax season is approaching. That provides an excellent opportunity to rebalance fixed income and focus on strategies that have a better opportunity to navigate this market. 

Read more: Where are the opportunities in volatile fixed-income market? | Wealth Professional

He said some advisors have been buying GICs and money market exchange-traded funds. He said long short credits can provide a hedge to help with volatility. Corporate bonds offer very good value, and longer dated bonds have historically offered downside protection during an equity sell-off.

“You need to look at your fixed income. Understand what the returns look like and where they’re coming from, then take yourself from where you’re at to the optimal state,” said Mesman. “Now’s the time to do it, given it is tax season.

“There’s a strong business case for hedged fixed income within the mix. It gets you in the market and takes the edge off because traditional bonds are going to have a tough time developing in this environment, so you really need to look at what you own, dig into it, and diversify your sources of return.”