You made it to the final chapter. Ten chapters of signals, risk models, portfolio construction, trading costs, and sustainability considerations. Now the question is simple: does all of this actually work?
Previous: Liquidity and Trading in Fixed Income
ESG is everywhere. Every asset manager talks about it. Every pitch deck has a slide on it. But does sustainability data actually help you pick better bonds?
You can build the most brilliant bond portfolio model in the world. But if you can’t actually trade the bonds you want, none of it matters.
Emerging market bonds sound exotic. But they are actually a massive, growing slice of the global fixed income universe. We’re talking about $29.6 trillion in total EM fixed income as of 2020. And yet most investors either ignore them completely or treat them as a single homogenous bucket of “risky stuff.”
Previous: Picking Corporate Bonds: Credit-Sensitive Security Selection (Part 1)
In Part 1, we covered value signals and default models for corporate bonds. Now let’s get into the other three investment themes: momentum, carry, and defensive. Then we’ll see what happens when you combine them all. And yes, we’ll talk about machine learning too.
Government bonds had 13 sovereign issuers to choose from. Corporate bonds? Try over 3,000 issuers and 15,000 individual bonds across developed markets alone.
So you want to pick government bonds. Not just any bonds. You want to pick the right ones, from the right countries, at the right part of the yield curve. Chapter 5 of Richardson’s book shows you how to do that systematically.
You know those fund managers who claim they’re beating the market with skill? Richardson basically pulls back the curtain in Chapter 4 and says: most of them are just loading up on credit risk. That’s not alpha. That’s beta wearing a fancy suit.
So you own bonds. You collected your term premium and credit premium from Chapter 2. Good. But can you do better than just holding them? Can you turn the dial up when bonds look attractive and dial it down when they don’t?
Chapter 2 asks a question every investor should care about. Why put money in bonds at all? Stocks get more attention, they’re flashier, and over long periods they tend to return more. So what’s the case for fixed income?
Previous: Introduction to the Series
Before we get into the weeds of bond investing, we need to agree on some basics. What even is a bond? How big is this market? And what does “systematic” mean when people throw that word around?
Bonds are boring. That’s the general take, right? Stocks get all the attention. Crypto gets all the hype. Bonds just sit there collecting interest like a savings account with extra steps.