Investing according to your risk tolerance: 3 ideas for 2021

In an environment of extremely accommodative monetary policy with policy rates at a record-low 0.1% and term deposit rates not much higher, investors are increasingly concerned about how they can invest and meet their investment objectives. Many investors are holding too much cash, reducing their ability to meet those objectives. The opportunity cost of sitting on large pools of cash is high, particularly when credit markets still present some significant opportunities and the Australian bond curve has been steepening.

Below are three ideas for bond investors in 2021, catering to different liquidity requirements and levels of risk tolerance.

Lower risk tolerance

Pursue a higher return than cash in short-term bond strategies

While returns on cash may be historically low, many investors are anxious about losing money, particularly given recent market volatility. For investors with a lower risk tolerance and/or higher liquidity needs, an actively managed short-term bond strategy can help enhance returns and preserve capital, while maintaining daily liquidity.

These strategies can take advantage of opportunities in shorter-term bonds and credit markets to generate returns above the cash rate. They offer defensive characteristics by maintaining a high average credit quality rating, along with a structural level of duration (sensitivity to interest rates) at a relatively attractive entry point versus recent history, which should allow them to deliver returns if we experience volatility in risk markets. In addition, they typically run a structurally lower level of duration than core Australian bond allocations, so if interest rates were to rise in the future, investors should not be overly exposed.

Medium risk tolerance 

Seek out the opportunities in public bond markets

For investors with a slightly higher risk tolerance, we see opportunities to earn more from domestic bond investments while taking on manageable risk. At the higher quality end of the spectrum, we favour assets rated AAA and senior tranches of residential mortgage-backed securities (RMBS), which are backed by robust cash flows. There are still pockets of the investment grade credit universe with attractive valuations and scope to recover from the pandemic shock. We see opportunities in sectors such as leisure, hospitality and gaming. However, careful credit selection is required to differentiate the winners from the losers.

While central bank support remains strong, we also favour Australian semi-government debt, particularly 5-year to 7-year maturities, which offer better value than shorter-duration bonds. These bonds are expected to “roll down” the yield curve towards the Reserve Bank of Australia’s three-year yield curve control target of 10 basis points (bps). Although spreads for most semi-government bonds have narrowed to historically tight levels, we believe the sector still offers value amid this environment of ultra-low cash rates.

Higher risk tolerance 

Selectively take advantage of the illiquidity premium

For those investors with longer time horizons who can tolerate some risk, we think there are significant opportunities in the more illiquid areas of the credit market – private credit, special situations, and some areas of the distressed credit market.

Most available risk premiums may be fair, currently, but they are not cheap. 

When looking to generate a return above the “risk-free” rate, investors should consider the illiquidity risk premium, which is typically underrepresented in portfolios. The illiquidity premium is essentially the additional compensation to investors for limiting their ability to take advantage of future market dislocations, should they arise, as their capital is locked up for a specified period. As a result, illiquid investments should offer a premium in the form of higher yield expectations. These comparably higher yields can be a helpful income-generating component of a portfolio.

In our view, alternative credit now looks extremely attractive on a relative basis. Central banks have been supporting the most liquid, traditional areas of capital markets. A lot of that liquidity hasn't found its way into the less liquid, alternative areas of credit markets such as private corporate debt or real estate opportunities. For investors prepared to have some of their portfolio allocated to less liquid assets, there is the potential to earn high single-digit returns in exchange for locking-up some assets for a period of time.

Building an efficient portfolio: Consider all available risk premiums

With short-term interest rates at 0.1%, investors are being penalised for holding cash and not putting their money to work. Now more than ever, investors need to consider all of the available risk premiums when building an efficient portfolio. This may mean a number of things, including boosting diversification and taking advantage of unique opportunities caused by the current dislocations in areas like alternative credit.

Invest with the world's premier fixed income manager

Want to find out how fixed income can play a role in your portfolio? Hit 'contact' to get more information, or click here to learn more about PIMCO's solutions and their latest views on opportunities in the credit market.

Past performance is not a reliable indicator of future results. Interests in any PIMCO fund mentioned in this publication are issued by PIMCO Australia Management Limited ABN 37 611 709 507, AFSL 487 505 of which PIMCO Australia Pty Ltd ABN 54 084 280 508, AFSL 246 862 is the investment manager (together PIMCO Australia). This publication has been prepared without taking into account the objectives, financial situation or needs of investors. Before making an investment decision investors should obtain professional advice and consider whether the information contained herein is appropriate having regard to their objectives, financial situation and needs. Investors should obtain a copy of the Product Disclosure Statement (PDS) and consider the PDS before making any decision about whether to acquire an interest in any PIMCO fund mentioned in this publication. The current PDS can be obtained via This publication may include economic and market commentaries based on proprietary research, which are for general information only. PIMCO Australia believes the information contained in this publication to be reliable, however its accuracy, reliability or completeness is not guaranteed. Any opinions or forecasts reflect the judgment and assumptions of PIMCO Australia on the basis of information at the date of publication and may later change without notice. These should not be taken as a recommendation of any particular security, strategy or investment product. All investments carry risk and may lose value. To the maximum extent permitted by law, PIMCO Australia and each of their directors, employees, agents, representatives and advisers disclaim all liability to any person for any loss arising, directly or indirectly, from the information in this publication. No part of this publication may be reproduced in any form, or referred to in any other publication, without express written permission of PIMCO Australia. PIMCO is a trademark of Allianz Asset Management of America L.P. in the United States and throughout the world. © PIMCO, 2019

Robert Mead
Managing Director and Co-Head of Asia-Pacific

Robert co-oversees the portfolio management teams in Asia. Previously, he was a portfolio manager in Munich and head of the European investment grade corporate bond team. He has 29 years of investment experience.


I would like to

Only to be used for sending genuine email enquiries to the Contributor. Livewire Markets Pty Ltd reserves its right to take any legal or other appropriate action in relation to misuse of this service.

Personal Information Collection Statement
Your personal information will be passed to the Contributor and/or its authorised service provider to assist the Contributor to contact you about your investment enquiry. They are required not to use your information for any other purpose. Our privacy policy explains how we store personal information and how you may access, correct or complain about the handling of personal information.


Sign In or Join Free to comment