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A passive approach to fixed income using ETFs

Wealth DFM talks to Paul Syms, Head of EMEA ETF Fixed Income Product Management at Invesco about why he feels that a passive approach can work well in fixed income ETFs

Paul Syms is a somewhat unusual case in the world of fixed income investing. Prior to joining Invesco four years ago, he ran active portfolios for around 16 years as a fixed income fund manager. Since moving over to the ETF business at Invesco which is predominantly orientated towards passive investment, he believes that his past experience has been invaluable. Syms explains “Because of my background, I can see both active and passive sides and see a balance between the two. We’ve been in a secular trend for lower rates as central bank policies have driven yields to record low levels and there’s been ongoing fee compression going on and more desire for exposure to passive fixed income.”

So does Syms get excited about fixed income ETFs? The answer is a firm “Yes”. As he explains “It is a rapidly growing area, providing investors with a wide variety of choices on how to actually manage their fixed income portfolios. If you look historically at actively managed funds, they do a great job. They provide generally broad asset class exposure. But, you have to do your research, find an interactive manager and select whether you’re looking for government bonds, credit or high yield exposure. What you’re getting with fixed income ETFs is a much more granular approach. As an investor, if you want to be able to choose a product that suits you or your interest rate risk, match off your liabilities with the right duration etc. then ETFs cover the range of options. If you want to add a niche asset class then previously you’d have to have relied on your active manager to seek out and spot such opportunities. You can now do that yourself and ETFs can offer those building blocks. They aren’t necessarily there to replace active managers, but they can certainly work in tandem with them to give investors additional choice and extra flexibility when it comes to their overall allocation to fixed income.”

Some investors still prefer an active management approach for bond portfolios to be actively managed. We asked Syms for his thoughts on why this might be, and in which sectors he feels that a passive approach is particularly suitable for fixed income.

He explains, “Historically the argument for active management in fixed income is that the fixed income benchmarks are generally more complex legacy benchmarks. There’s a lot more going on under the bonnet. I don’t think I see passive fixed income as replacing active, but just working in conjunction with it. And there are certain spaces where this works quite nicely.

“Of course, there are opportunities there for active managers, if you’ve got a multi-asset portfolio or a broader benchmark. But if you’re looking at a single currency, government bond ETF over a bond fund, there’s not necessarily a huge amount of scope to add a reasonable amount of alpha. If you’re looking at pure U.S. Treasuries, for example, it may be quite difficult to actually create enough alpha to offset the fees. I think investors should really be looking at these areas and trying to decide whether they are being compensated for the extra fees by the additional alpha.

“In some areas there will be active fixed income fund managers who can produce enough alpha to offset the additional fee. However, there will be other areas where that doesn’t work so well. If you’re looking at something pretty narrowly defined, like a single currency government bond index or maybe even certain credit indices, it might be more difficult. If you expand that to a strategic bond where it’s going across government, sovereign issuance and investment grade and maybe high yield, there’s some more opportunities for proactive management to outperform their index there. Or likewise, a global lag where you’re looking at 27000 constituents within that index, across a dozen sectors, about 28 currencies. There’s a lot more opportunity in that sort of index than in a narrowly defined benchmark.”

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