Wirehouses rethink age-old models

Changes come as Treasuries and other investment-grade fixed-income instruments are yielding near-record lows

Feb 10, 2013 @ 12:01 am

By Jason Kephart

Traditionally, bonds have been at the core of the most risk-adverse portfolios because they are safe, simple and boring.

Wirehouses, however, are beginning to rethink that assumption.

UBS Wealth Management Americas, Bank of America Merrill Lynch and Wells Fargo & Co. all have begun reducing the proportion of government and investment-grade debt in the model portfolios they offer financial advisers. The biggest changes have been made in the most conservative models, which have relied on those highly rated securities the most in the past.

The changes come as Treasuries and other investment-grade fixed-income instruments are yielding near-record lows and advisers are clamoring for ways to find more income for their clients.

“There's this dance you have to do: How do I get more income without taking a lot of extra risk? Well, just by sitting in supersafe things, you're already taking risk,” said Chris Wolf, chief investment officer for the private-banking and investment group at Merrill Lynch.

The risks in government and investment-grade-bond debt are growing by the day as a slowly improving economy brings rising interest rates ever closer to reality.

The Federal Reserve has said that it will keep rates artificially low until unemployment hits 6.5%, a goal that may not be achievable anytime soon, but one of which advisers still should be aware.

“It's going to take a long time, but it's not going to take forever,” Mr. Wolf said.

When rates do start to rise, advisers can expect to see losses on the bond side of a portfolio.

Even though rates aren't likely to rise anytime soon, it makes sense for the wirehouses to start sounding the warning alarms now, said Barry Mendelson, a managing partner at Capital Market Consultants LLC, which develops asset management platforms for advisers and broker-dealers.

“It may take some months to get meaningful reaction from their advisers to their guidance,” he said.


The Barclays Capital U.S. Aggregate Bond Index, which measures the performance of intermediate-term investment-grade bonds, has lost money over a full calendar year only twice since 1976, according to Barclays Bank PLC.

One of those times was when the technology bubble burst in 2000 and the other, more notably, was when the Fed raised interest rates in 1994, the year of the “Great Bond Market Massacre,” as Fortune magazine described it. The Barclays index lost 3% that year as the 10-year Treasury's rate rose almost 2 percentage points to 7.8%.

Experts warn that rising rates would cause larger losses this time around because with rates already so low, there is no cushion to soften the loss of principal. A rise in rates of 1 percentage point today would knock the price of the Barclays index down by 4 to 5 percentage points.

“Advisers are well-aware of the risks that rising interest rates can have on a portfolio, especially for longer-term maturities, but the other extreme is just as dangerous,” said Brian Rehling, chief fixed-income strategist at Wells Fargo Advisors. “Sitting in cash, you're going to lose purchasing power to inflation.”

That has left advisers in a bit of a conundrum that wirehouses are trying to solve.

UBS has made the most drastic change so far.

As a result of its new long-term capital market outlook, which doesn't look kindly on government debt, the brokerage last month reset the strategic-asset-allocation models that it provides to its advisers for the first time in several years. As a result, it is now underweight government debt for the first time.

“We need to prepare the models for extreme environments,” said Mike Ryan, chief investment strategist for UBS Wealth Management Americas. “We need portfolios that can weather periods like 2008.”

UBS has added classically risky assets such as high-yield bonds and emerging-markets debt to the mix in place of the investment-grade bonds.

“We're favoring credit risk over interest rate risk,” Mr. Ryan said.

Last month, UBS started mailing letters to clients alerting them as to whether the risk level of their portfolio had been reclassified as a result of the model portfolio shake-up.

The purpose of the letters was to get those clients who do see their risk levels going up to start talking to their advisers about the new world of risks that investors face today, UBS spokeswoman Karina Byrne said.

Merrill Lynch's model portfolios have been shifting to a core-and-satellite approach to lessen the risk of rising rates. The firm's conservative models still have high-quality bonds at the core but have added high-yield bonds and international bonds.

“The high-quality bonds don't offer great yields, but they do offer liquidity, which you need from the core,” Mr. Wolf said.

At Wells, the company's tactical models for conservative portfolios are reducing long-term government bonds and increasing equities.

jkephart@investmentnews.com Twitter: @jasonkephart


What do you think?

View comments

Recommended for you

Sponsored financial news

Upcoming Event

May 02


Women Adviser Summit

The InvestmentNews Women Adviser Summit, a one-day workshop now held in four cities due to popular demand, is uniquely designed for the sophisticated female adviser who wants to take her personal and professional self to the next level.... Learn more

Featured video


Advisers beware: tax law has unintended consequences

Commission accounts could be preferable for some clients, and advisers could be incentivized to move from employee broker-dealers to independent channels.

Recommended Video

Path to growth

Latest news & opinion

Cutting through the red tape of adviser regulation is tricky

Don't expect a simple rollback of rules under the Trump administration in 2018 — instead, regulators are on pace to bolster financial adviser oversight.

State measures to prevent elder financial abuse gaining steam

A growing number of states are looking to pass rules preventing exploitation of seniors.

Morgan Stanley reports a loss of advisers after exiting the protocol for broker recruiting

The firm said it lost 47 brokers in the fourth quarter, the most in any quarter of 2017.

Morgan Stanley's wealth management fees climb to all-time high

Improvement reflect firm's shift of more clients into fee-based accounts priced on asset levels, which boosts results as markets rise.

Legislation would make it harder for investors to sue mutual funds over high fees

A plaintiff would have to state in their initial complaint why fiduciary duty was breached, and then prove the violation with 'clear and convincing evidence.'


Hi! Glad you're here and we hope you like all the great work we do here at InvestmentNews. But what we do is expensive and is funded in part by our sponsors. So won't you show our sponsors a little love by whitelisting investmentnews.com? It'll help us continue to serve you.

Yes, show me how to whitelist investmentnews.com

Ad blocker detected. Please whitelist us or give premium a try.


Subscribe and Save 60%

Premium Access
Print + Digital

Learn more
Subscribe to Print