Pension funds could increase their long-term developed market bond allocations to meet liabilities, potentially dampening the negative effects of rising rates on long-term U.S. Treasury bond exchange traded funds.
According to a Pyramis Global Advisors survey, pension funds that monitor $9 trillion of assets in North America Europe and Asia could pile into long-term debt under liability-driven investing, said in a Bloomberg article
“At a time when people least expect investment in bonds, you may see it because of a move toward liability-driven investing,” Derek Young, president of Fidelity’s global asset-allocation group, said in the article. “Long-dated bonds are really critical in immunizing these portfolios against interest-rate risk. You want to pair off the assets with the liability.”
Despite calls for rising rates, long-term Treasury bonds may find some support from large pension funds as the money managers try to meet their liability targets. Consequently, government bond ETFs, like the iShares 7-10 Year Treasury Bond ETF (NYSEArca: IEF) and iShares 20+ Year Treasury Bond ETF (NYSEArca: TLT), may experience a slower descent as the greater demand from pensions help support the market. Year-to-date, IEF is up 8.1% while TLT has gained 20.2%. [Government Bond ETFs Remain The Safer Play]
Liability Driven Investment, or LDI, is a type of investing strategy that tries to accumulate sufficient assets to meet all present and future liabilities. This type of investment scheme is largely implemented in defined-benefit pension plans for retirees.
Consequently, Fidelity has been diminishing its investments in riskier Asian debt in favor of developed Europe and U.S. bond assets, betting that the European Central Bank stimulus will fuel growth while the U.S. recovery speeds up. For European fixed-income exposure, the WisdomTree Euro Debt Fund (NYSEArca: EU) tracks Euro-denominated government debt. EU is up 1.3% year-to-date.
However, Fidelity warned against Asian debt, notably Chinese bonds as the economy is at risk of a boom-to-bust housing market.
“We see Europe at a mid-cycle. If the ECB steps in with more stimulus measures, that will create more opportunities,” Young said. “We’re less constructive on Asia, China and Japan. Our biggest concern is that growth in China is credit-driven as opposed to being productivity-driven. That type of growth typically doesn’t survive.”
The WisdomTree Asia Local Debt Fund (NYSEArca: ALD), which tracks Asian bonds denominated in their local currencies, has gained 2.4% year-to-date. Additionally, the PowerShares Chinese Yuan Dim Sum Bond Portfolio (NYSEArca: DSUM), which tracks Chinese yuan-denominated debt issued by international corporations or entities, and the similar Market Vectors Renminbi Bond ETF (NYSEArca: CHLC) are up 0.2% and 0.9% year-to-date, respectively.
For more information on the fixed-income market, visit our bond ETFs category.
Max Chen contributed to this article.