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Beware of yield chasing

Investors appear to be acting smarter when it comes to earning income as the prevailing low yields start to hurt. According to the ASISA unit trust flow statistics for the quarter ended December 2011 and released last week, the category of unit trusts that attracted the highest net inflows was the fixed income – varied specialist sector. Considering their better yield due to fixed income - varied specialist funds being permitted to own real estate, listed debentures and even up to 5% in ordinary equities, their high inflows are perfectly understandable and perhaps even a little overdue. However, what investors and their financial advisors need to watch out for is irrational yield chasing.

Sean Segar, Head of Product at Nedgroup Investments Cash Solutions says, “At times of lower interest rates as we are currently experiencing many investors who depend on their regular income to live find themselves in a bit of a squeeze.  “As income declines and inflation marches on, such investors are forced to seek investments that offer better yields to compensate for this” he adds.

This is all very well as long as they know what they are doing and understand the linear relationship between yield and risk. The fixed income markets are very efficient and no investor is going to find higher yields at the same risk as lower yields. Risk will always increase in line with yields. The secret is to ensure that the additional risk taken in order to earn extra yield is worth the extra yield, and in many cases it is not. Amongst the funds in the fixed income - varied specialist sector are funds that will provide better yields without taking on too much additional risk.   

The ASISA release also revealed that money market funds lost almost R9 billion during the quarter. Money market funds have an enormous role to play as their proposition which includes higher yields and lower credit exposure than call, but still offering investors immediate access to their funds, is hard for banks to compete with. However, Segar mentions that, “for more stable cash investments better yields can certainly be found amongst the 60 odd unit trust funds in the fixed income – varied specialist category.” 

As the name implies the investment mandates of the funds in this category vary and require investors to do their homework or to consult their financial planner. Funds included in this category can invest in an array of income generating instruments including the traditional money market and other short duration instruments that money market and income funds utilise.

“At Nedgroup Investments we pay special attention to this short duration investment space. There is a mountain of money wallowing around on company balance sheets and in the bank accounts of individual investors. This could be working harder for its owners,” concludes Segar.

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