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Increasing risks may catch investors out: S&P

Increasing risk in "safe" fixed-income securities may catch investors unaware, according to Standard & Poor's Investment Consulting.

Tuesday, May 30th 2006, 11:40PM
Declining yields coupled with heightened risks have fundamentally changed the risk/return trade-off for common fixed-income sectors, making it timely for investors to review their exposures.

According to Standard & Poor's analysis, inflation and its impact on interest rate decisions made by central banks is a key driver of fixed-interest rate risk. With the recent interest rate hike in Australia, and US CPI at the upper limit of the central bank's threshold, it is difficult to argue that inflation and related interest rate risks have diminished.

In contrast, the yields on fixed-interest investments have been declining, which has clearly altered the risk/reward profile of these securities.

"In a yield-poor world with no surprises, a 1%-2% premium over cash may still seem acceptable," Standard & Poor's head of Investment Consulting Simon Ibbetson says.

"Nevertheless, we must acknowledge that the level of uncertainty has changed materially, therefore this small premium comes with a heightened risk."

"To find value in a tight fixed-income market requires a change in manager selection and portfolio construction," Ibbetson said.

"At S&P, we are increasingly advocating allocations to managers with more absolute return focused approaches, particularly managers who have the ability to take an objective view on valuation."

"Given the evolution of fixed-income markets over recent years, there are also increasing opportunities for managers who have a mandate to invest in newer, non-traditional securities, assuming that they have the skills to analyse these increasingly complex issues," Ibbetson said.

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