EDHEC’s Rebonato predicts ‘new dawn’ in fixed income investing

Riccardo Rebonato

Riccardo Rebonato, Professor of Finance at EDHEC Business School, has stressed timing factor exposures in fixed income is far more promising than in equities.

Speaking to ETF Stream, PIMCO’s former global head of rates analytics said, although very little academic work had been done around factor investing in fixed income, it was relatively easier to predict corrections of the entire bond market compared to the equity market.

Factor investing in fixed income remains a very niche part of the European ETF market. There are very few ETFs available and those ETF providers which have launched products have struggled to capture flows.

In a study conducted with EDHEC academics Jean-Michel Maeso and Lionel Martellini, Rebonato (pictured) found bonds moved back in line with fundamentals far quicker than equities.

Instead of taking years, which requires equity investors to weather the storm, Rebonato explained bonds would move on average back in line with fundamentals within a few months.

Therefore, he explained, it was easy for their models to predict when investors should be longer duration and shorter duration versus the benchmark, even in long-only portfolios.

In particular, they found their strategies did particularly well in bear equity markets and rising rate environments.

“By taking small duration risk, investors can extract a substantial number of basis points outperformance net of fees,” he added.

In an era where bond yields have been compressed by central bank monetary policy, namely through quantitative easing, Rebonato stressed the importance of being creative in the fixed income market.

“With the average risk compensation in government bonds almost nothing, investors have to be creative and do something clever,” he continued. “They cannot just buy and hold.”

In this environment, passive investing does not work while active managers are still charging high fees for their products.

Rebonato, who is speaking at ETF Stream’s Big Call: Fixed Income event next month, commented: “This [type of investing] is a hybrid which is based on predictability and efficient harvesting of risk premia.”

However, EDHEC’s Professor of Finance did highlight the issue that no consensus around factor exposure in fixed income had “crystallised” while in equities there are numerous strategies which efficiently harvest risk premia around value, size, momentum and quality.

“More work needs doing, but we believe that we are truly witnessing a new dawn in fixed-income investing.”

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