Thoughts on Fixed Income Portfolio Positioning

Note: This article is longer than most at a little over 2,000 words. If you choose, click here for a pdf version.

A few days ago, I was asked how I would position the fixed income portion of a portfolio. In order to provide an answer in a timely fashion I basically responded that due to the currently low interest rate environment, a steep yield curve predicting higher rates and corporate credits that would be sensitive to either an improving or weakening economy I would weight the portfolio toward short duration, government debt. Longer duration credits would only be favorable as a means to speculate on falling rates in the short-term or in an economic forecast that gives a high probability to decade with very low inflation. Under any other conditions, long-term bonds are not priced to deliver adequate real returns so a strategy of rolling short-duration bonds should outperform.

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While my conclusions remain largely the same I would like to expand on this answer by looking separately at the classes of fixed income securities and exploring a few other options for a fixed income strategy. Fixed income securities include Treasury securities (bills, bonds and TIPS), corporate debt, municipal securities and mortgage back securities (MBS). We will look at each in order and then finish with conclusions and recommendations.