Why it might be time to take more risks

Justin Onuekwusi, multi-asset fund manager at Aviva Investors, says high yield bonds and equities may well reward investors looking to gradually increase risk.

Short-term volatility, driven mainly by uncertainty over Europe and global growth concerns has dominated markets in 2011.

Over the summer, the risks of a global recession occurring were high. While many risk assets, and equities in particular, represented good value on traditional measures such as earnings yield, we were positioned cautiously from a multi asset perspective.

However, the risk of a US recession looks to be gradually receding with economic data such as the ISM survey remaining positive and investors could now be rewarded for gradually and incrementally taking on more risk.

High yield bonds present one way to do this. The yield they are paying above government bonds makes them particularly attractive from a valuation perspective in today’s market, and more broadly, positions that pay income make sense within a diversified portfolio in the current low yielding environment.

Corporates are also generally in good shape and many have cash surpluses on their balance sheets, which gives investors confidence that the yield on offer rewards the risk of default. In a multi asset portfolio, adding high yield bonds is a sensible alternative to taking risk compared with simply increasing an equity weighting.

High yield is likely to fall less than equities if there is another sell-off in risk assets and reviewing monthly performance shows that in the 10 worst drawdowns for equity markets since 2000, global high yield has produced better returns. Therefore, high yield provides an element of downside protection relative to equities, while at the same time adding to the overall risk of the portfolio.

This does not mean one should disregard equities. UK stocks also look favourable for investors looking to take on risk in a considered way, as they are yielding higher dividends relative to most other developed markets. In addition, Asian equities may benefit from positive regional demographics and superior growth prospects, compared with Western economies.

While European equities may look attractive to many on a valuation basis, the austerity packages being implemented by the periphery in Europe are likely to have a negative impact on growth, and will therefore weigh on the long-term earning potential of companies.

Sovereign debt

In this environment of uncertainty, constructing a portfolio that is truly diversified is vital, and we have maintained our positions in asset classes that provide diversification from traditional assets, such as Asian and UK direct property and emerging market inflation-linked debt.