Investment Strategies for Generating Efficient Income

04 January 2024
4 min read

What You Need to Know

Bond yields are up—that’s good news for income investors, but secular forces still pose headwinds for inflation-adjusted returns. We think an efficient way to generate income is by carefully assembling mixes of interest-rate and credit building blocks—and incorporating private-market exposure for additional diversification and return potential.

Annualized return for US Treasuries since 1987 in bear markets when credit declined by 11.2%.
Annualized return for credit in bull markets since 1987, easily outpacing the 3.6% return of rates.
Return-to-volatility ratio of enhanced credit barbell, including private credit exposure, since 2004

An Unfriendly Landscape for Income Investors

A challenging macro mix is set to make investing a lot more challenging in the years ahead: The share of the world’s population that’s of working age seems to have peaked. Growth in world trade, a huge economic tailwind since the mid-1980s, has flattened. And the global debt burden is nearing 140% of gross domestic product (GDP)—it’s well documented that levels above 100% can create economic headwinds.

Collectively, these factors will likely yield lower growth and higher inflation, creating a challenging environment for investors. Add in historically high equity valuations and historically low Treasury yields, and you may have a return problem.

Bond Yields Have Come Roaring Back

In the fixed-income world, yields have come a long way from their depths during the COVID-19 pandemic. Back in mid-2020, the 10-year US Treasury yield was only 0.6%, a meager level for income seekers. Then, in early 2022, the Federal Reserve kicked off a sharp cycle of interest-rate hikes in hopes of cooling off red-hot inflation.

By late 2023, the landscape had changed dramatically, with the 10-year Treasury yield well above 4%. While the yield surge inflicted a lot of pain across bond markets, it’s also brought renewed energy to traditional core bond strategies and bolstered the income-generating capabilities of sectors from investment-grade corporates to high-yield bonds and emerging-market debt.

Secular Forces Will Challenge Real Returns

While the power of higher bond yields is certainly a welcome development for income investors, the path forward will likely feature plenty of volatility. It will also feature the convergence of three macro headwinds (Display) that will pressure inflation-adjusted returns.

Higher-Yielding Alternatives Come With More Market Risk
US Treasury yields alongside equity betas and drawdown risks for various asset classes.

Current analysis and past performance do not guarantee future results.
10-year US Treasury yield from January 1, 1982 to March 31, 2022. Beta and average drawdown are calculated from January 1, 2012 through January 31, 2022; max drawdown is calculated from January 1, 2012 through December 31, 2021. Core bonds, bank loans, high-yield bonds and high-dividend equities are represented by the Bloomberg US Aggregate Bond Index, S&P/LSTA Leveraged Loan Index, ICE BofA US High Yield Index and MSCI USA High Dividend Yield Index, respectively.
As of January 1, 2022. Source: Bloomberg, ICE Data Indices, Morningstar Direct, MSCI, S&P, US Federal Reserve and AllianceBernstein (AB)

First, demographics are changing, with the global working-age population declining. Second, globalization seems to have peaked and pivoted into deglobalization, as evidenced by declining levels of world trade. And third, a growing debt burden is diverting otherwise productive investment in order to cover debt-servicing costs.

Past performance, historical and current analyses, and expectations do not guarantee future results.

The views expressed herein do not constitute research, investment advice or trade recommendations and do not necessarily represent the views of all AB portfolio-management teams. Views are subject to revision over time.

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