While Bondbloxx Investment Management co-founder Joanna Gallegos said at Exchange: An ETF Experience 2022 in April that it would be “table stakes to say that the rising rate environment is going to make a very, very different outcome for investors this year,” she noted that she felt it would “become quite evident in 2022 is that exposures that seem conservative are now pretty risky.”
Speaking with NYSE’s Judy Shaw for “ETF Leaders, Powered by the New York Stock Exchange,” Gallegos said that historical expectations for duration in broad-based fixed income portfolios have been “around 4.5 years. Now, it’s 6.5. That’s a 50% increase.”
“So, that means for the safest, most dependable, and defensive parts of your fixed income allocation, you’re now about to run into an environment where you’ll lose 50% more than you would have just 10 years ago,” she added.
Investors have tolerated this rise in embedded risks “because Fed policy has been very supportive to our markets and economic shocks and downturns.” Not to mention, “interest rates have remained low.” But now, when looking at their portfolios, Gallegos explained that investors may see “that the risk in their portfolios don’t match their tolerance or justify their return expectations.” So, in an environment with rising rates and embedded risk, “investors should think about doing things differently.”
“They should be more deliberate in the way that they’re reconstructing their portfolios as they re-enter the markets or reinvest,” Gallegos said. “They should be thinking very carefully about their broad-based exposures and using new tools, because the market environment has changed.”
Launched in October of 2021 to provide precision ETF exposures for fixed income investors, BondBloxx was co-founded by ETF industry leaders Gallegos, Leland Clemons, Tony Kelly, Mark Miller, Brian O’Donnell, and Elya Schwartzman. The team has collectively built and launched over 350 ETFs at firms including BlackRock, JPMorgan, State Street, Northern Trust, and HSBC.
The Dispersion of Returns
When thinking about sectors, Gallegos said that investors should pay attention to the dispersion of returns.
“Volatility is a great light that gets shined on the markets to show you the difference across sectors, across returns, across different market segments,” she said. “And in fixed income, you look at high yield, we’re noticing that that is very true.”
Not only is there a definite dispersion of returns, there’s also a considerable amount of variability year-over-year. At the time of the interview, the median return for high-yield sectors was around 6%. But the range between the highest- and lowest-performing sectors was over 13%. This has been consistent over the last 25 years.
“So, as you’re reconstructing your portfolio, or you’re building an allocation, you would really need to pay attention to some of these dynamics,” Gallegos added.
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