Stay nimble with the Liquid+ Strategy
Liquid+ Strategy – The importance of yield and liquidity in an age of volatility
Chief Investment Office, Daryl Ho14 Sep 2022
  • The highest inflation in 40 years beckons risk-averse investors to seek a better strategy than cash
  • The Liquid+ Strategy provides the optimal mix of safety, liquidity, and yield
  • This Credit/Treasuries portfolio had performed well during the “Great Inflation" of the 1970s
  • Investors are once again given the opportunity to get paid for going up in quality
  • The Liquid+ Strategy is a worthy cash alternative
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The false allure of cash. The investing world has found no shortage of risks in 2022, with the largest commodity moves in a decade, the threat of escalating conflict on the European continent, widespread volatility around risk assets, and the first 75 bps Fed hike in 28 years. Under such environments of profound uncertainty, it is natural for risk-averse investors to seek first the safety of cash to preserve both capital and liquidity. Yet the prospect of facing the highest inflation in 40 years leaves it difficult to imagine that cash would register positive real returns over the longer run.

Having the best of both worlds. Caught between a rock and a hard place, most income-seeking investors are forced to choose between (a) the higher yields in riskier pure credit funds to beat inflation, or (b) capital certainty and liquidity but lower returns of cash/deposits. We believe that there is yet a middle ground to be achieved – constructing a portfolio with a mix of both Investment Grade (IG) credit and risk-free Treasuries makes the whole greater than the sum of its parts. Analysing the risk/return spectrum of a two-asset portfolio of (i) Government Treasuries and (ii) IG corporate credit, we found that the addition of 10-20% of Treasuries to a credit portfolio is the sweet spot in minimising the overall volatility of the fixed income portfolio, giving an investor the best of both worlds when it comes to capital stability and income generation.

The Pareto principle for bonds. Moreover, the minor Treasury allocation enables a more robust portfolio by (a) benefitting from flight-to-safety flows under unexpected economic downturns, and (b) providing liquidity for the portfolio as Treasury bonds have vastly deep markets. Under the most adverse of circumstances, central banks would always act as buyers of last resort.

Be rewarded for safety. The best part? Investors are, for the first time in a long while, well-compensated for taking less risk. Given the hawkish pivot of global central banks in 2022, the yield on the 80/20 mix of a Credit/Treasuries portfolio is now close to 4%, dwarfing the returns of the same fixed income portfolio mix over the last 10 years (Figure 1). This bucks the trend of lower-for-longer yields under a decade of quantitative easing – investors now have a worthy alternative to cash that offers superior returns without needing to take excessive risks. Notably, the default rates of IG credit had never exceeded 0.5% in any one year, even through periods of significant economic downturns such as the 2001 dot-com collapse, the 2008 Global Financial Crisis, and the 2020 Covid crisis. With the interest rate curve being historically flat, investors can also keep to the 1-3 year maturity segment – not needing to take excessive duration risk for that extra bit of yield.

Stay nimble with the Liquid+ Strategy. We therefore believe that the time is ripe for risk-averse income-seekers, achieving the optimal mix of safety, liquidity, and yield through a short-duration, Credit/Treasuries portfolio construct as a substitute for cash. We term this the Liquid+ Strategy – in an environment fraught with uncertainty, investors need to be nimble with a high-quality fixed income portfolio that they can easily liquidate for opportunities that present themselves in volatile markets, while high income-generation is always a plus.


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