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Income products surge, but beware the risks

Investors have been pouring into income-generating products, but two big portfolio risks are coming from the US, said Edmund Yun, head of investment solutions at CIC Banque Privee in Hong Kong.

After the market correction at the beginning of the year, investors have been re-entering by putting capital into income-generating products such as investment grade bonds and high dividend-paying stocks in developed and emerging markets, Yun told FSA.

“We have seen quite a number of income funds, either mixed asset or fixed income, receive a positive response in the second quarter as investors keep chasing yield when there is a null return from a [savings] deposit,” said Yun.

Yun, who joined CIC earlier this year from BMO Private Bank, influences the creation of a focus list of around 30 funds from a platform of 15,000 funds from Banque de Luxembourg (owned 100% by CIC).

Rate hike risk

Yun is neutral on US equities, which he said are hard to overweight because they are not cheap. He also pointed out that the average dividend yield of the S&P 500 index members is 2% compared to greater than 3% for the Hang Seng Index.

Moreover, risks coming out of the US will impact portfolios. For example, consensus is forming that the US will raise interest rates in December. Yun therefore recommends sectors such as financials and technology, which are expected to benefit from a rate hike. He added that some internet companies can also benefit from the fall in the unemployment rate and the growth in online spending.

An October US market correction would present a buying opportunity, he said. Targets would be companies that provide sustainable dividends.

“Companies that can increase their dividend on a gradual basis, but not those companies that can pay a high dividend now, such as utility companies, because their valuations may be quite lofty and will be subject to profit-taking once the US starts raising rates.”

In fixed income, the key is diversification. In Asia, both investment grade and high yield bonds are not cheap, he said.

“We continue to recommend to our clients to diversify their portfolios by investing into some yield-enhancing products, but to prepare for higher interest rate in US next year — either to reduce their leverage for those products or switch into another currency for the loan.”

The election and liquid alts

The major risk facing US equities in the last quarter will be the US election, Yun said.

The focus has been on the differences between the two candidates. Investors generally believe a Clinton win would provide more consistency and stability than potentially large changes if Trump is elected, he said.

However, if both the White House and the Congress are dominated by the same party, the balance of power in formulating US policy will not be balanced.

“We should also be alert that the election in the House and Senate could also change the political landscape of US.”

No matter who is elected, there will be volatility as well as a move away from monetary policy, he said. To move from slow growth to better growth, the government needs to put more money into infrastructure, which is in line with what key central banks have been discussing.

In view of the risks, Yun said the past few months, the bank has been advising clients to go into absolute return fixed income funds or macro opportunity funds.

“Some developed market absolute bond yields have hit new lows and the corporate credit spreads are close to their tight end of the range and have made long only fixed income fund less appealing.”

He said client demand for liquid alts is picking up. The global macro opportunity fund he mentioned, without naming the firm, is a liquid alts product, aiming for a target return of cash plus a fixed percent, with expected volatility of less than 10%.

“The fund manager will capitalise on global macro trends to drive returns using a dynamic multi asset approach. We believe these strategies will continue to work in the medium term.”  

Part of the Mark Allen Group.