How diversifying with bonds can boost risk-adjusted portfolio returns

How diversifying with bonds can boost risk-adjusted portfolio returns
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In the current volatile stock markets and the lower for longer interest rate environment, it is increasingly important for investors to ensure that they diversify their portfolio risk.

While owning an array of stocks in different market sectors helps to lower their portfolio risk, retail investors can also benefit from increasing their allocation to other asset classes such as bonds, says Johnson Chen, founder and CEO of CapBridge.

"Bonds offer a more stable investment opportunity when compared with other asset classes such as equities. The price volatility of bonds is significantly lower than that of equities - irrespective of whether it is a bull or bear market," he points out.

During times of crisis, savvy investors typically move money from equities to safer investments such as A-rated corporate bonds to serve as a hedge against market downturns, says Chen. For instance, at the peak of the Covid-19 crisis, the Bloomberg Barclays US Aggregate Bond Index 2020 provided a gain of 0.96%, compared with the S&P 500, which had seen a year-to-date loss of 30.5% on March 23, 2020.

There are many other benefits to holding bonds. For example, in the event of a bankruptcy or a default by a company, bondholders have a higher claim on the company's assets to recover their principal. By comparison, shareholders will typically not be able to recover any of their investments.

Additionally, as most bonds offer regular cash payments, investors enjoy a steady stream of fixed income throughout the duration of the bond. This is particularly attractive to investors looking for a relatively safe way to boost their overall investment portfolio returns.

Bonds are typically classified into three types - sovereign bonds, institutional-grade corporate bonds and junk bonds. As the name implies, government or sovereign bonds are issued by governments or sovereign bodies. One example is the US Treasury bonds which, while they can be considered to be risk-free, provide investors with very low yields.

Meanwhile, junk bonds are issued by the companies that may be at a higher risk of defaulting. Although these bonds usually offer higher yields, the risk may be too high to justify the returns.

Institutional-grade corporate bonds sit in between the two types of bonds. Rated by established rating firms such as Moody's, S&P and Fitch for their creditworthiness, these bonds offer a good balance between yield and risk, and are a sensible addition to any investment portfolio, says Chen.

Making institutional-grade bonds accessible to a wider pool of investors

Although bonds offer a lot of diversification benefits to an investor's portfolio, this asset class may have been overlooked by many individual investors due to the high entry barrier. For instance, most bonds are wholesale bonds, which are typically sold in a minimum denomination of US$200,000.

"This will greatly improve access to this asset class, and allow investors to diversify their portfolios and boost their risk-adjusted returns much more easily," says Chen.

While there are a number of retail bonds offered in smaller ticket sizes, they pale in comparison to the variety of bonds available in the market. To make matters more complicated for individual investors, wholesale bonds are mostly traded over-the-counter, which creates a lack of transparency in terms of the prices at which the bonds are trading.

Aiming to unrestrict one of the most established asset classes in the world, CapBridge is providing investors the opportunity to gain exposure to top quality bonds for as low as US$1,000.

Unlike industry incumbents who are accustomed to charging high platform and obsolete management fees, CapBridge implements a fully transparent fee structure, with fees significantly lower than other brokerages. Bonds are traded using an all-to-all exchange, where investors and market makers can buy and sell directly without any intermediaries.

"We think this will greatly improve access to this asset class, and allow investors to diversify their portfolios and boost their risk-adjusted returns much more easily," says Chen.

In contrast to peer-to-peer (P2P) loans, which are loans to small and medium enterprises (SMEs), CapBridge's institutional-grade wholesale bonds are backed by listed companies that are highly creditworthy and with a lower risk of default. Also, P2P loans may not be secured, which means they may not be backed by any form of collateral. If an SME defaults, the investors face a slim chance of recovering their capital, says Chen.

"There are many platforms offering P2P lending services, with high interest rates as a carrot to attract investors. Default rates of these loans range from 5% to 6%, to as high as 20%! The risks are immense, as evident in various high-profile collapses."

For example, earlier this year, an investigation was launched into Singapore-based financial firm CoAssets Group for possible offences under the Penal Code and the Securities and Futures Act. The company, which operates a P2P lending and crowdfunding platform CA Funding, saw hundreds of investors reeling in December 2020, when the platform transferred US$30 million of receivables to little-known debt recovery firm Sunfits.

CapBridge works with reputable partners in the industry to curate and offer the best bonds globally. Bonds that are listed on the exchange have been carefully selected, taking into account several factors - national champions from Asian countries, including the Middle East, and European banks; popularity among individual bond investors; diversification across country, industry and issuer; as well as liquidity, among others.

"We carefully curate our offerings according to each of our investor preferences. No matter what your investor profile may be, we have bonds and other investment products that will offer the right balance between reward and risk," says Chen.

Typically, CapBridge investors can expect returns of between 3% and 9%. As at June 2021, the yields listed ranged from 2.5% to 9% for US dollar-denominated bonds and 3% to 5% for Singapore dollar-denominated bonds, catering for the appetites of a wide range of investors.

Onboarding at CapBridge is fully digital and typically takes only a few minutes, as opposed to the manual and cumbersome account opening process of many incumbents, which may take up to weeks.

The experience is also designed to be end-to-end digital and highly transparent, with the ability to view and submit interest in all opportunities online.

In addition to bonds, CapBridge offers other highly sought-after private assets, such as pre-IPO unicorns, top quartile private equity funds and real estate. These private assets are traditionally only available to financial institutions and the most sophisticated investors at high minimum investment amounts.

As a digital wealth management platform, CapBridge leverages digital processes and innovative investment structures to offer the same products, but at significantly lower cost and reduced minimum investment amounts. This provides individual investors with the unprecedented ability to invest like the top 1%, says Chen.

CapBridge is available on both browser and mobile app. Support for bond trading on the mobile app will be available by end-2021. If a more personal touch is preferred, relationship managers are ready to help via WhatsApp.

CapBridge is licensed by the Monetary Authority of Singapore and holds a Capital Markets Services licence. Its strategic shareholders include the Singapore Exchange, SGInnovate and Hong Kong government-linked Cyberport Macro Fund.

To find out more about CapBridge's Preferred Access Bonds, visit here.