Stable Value Seen Outperforming Other Fixed-Income Sectors in Rising Rate Environment

Rising interest rates are generally bad for fixed-income investments, but perhaps not as bad for stable value funds as for some other short-term sectors of the bond market.

Researchers at New York Life Investment Management recently looked at how six different asset classes have performed in the past during periods of steadily rising interest rates and modeled how they might perform during a four-year period of rapidly rising rates.

In those models, U.S. equities generated the highest returns by far—about 9 percent annually, on average, said Michael Sipper, director of stable value investments for New York Life Investment Management, speaking at the 2013 SVIA Fall Forum. The next best performing asset classes were high-yield fixed income and international equities, both generating average annual returns of about 5 percent. Stable value funds followed with performance a little under 5 percent annually, then 3-month Treasury bills (a proxy for money market funds), then long-term bonds, and finally intermediate-term bonds.

To further explore how this might impact investor outcomes, the researchers used these results to create three optimal model portfolios—conservative, moderate, aggressive—and plot them along an efficient frontier. Only two asset classes were needed to create the optimal portfolios, Sipper said: stable value and U.S. equities. The conservative portfolio had an 85 percent allocation to stable value and a standard deviation risk of about 1.5 percent. The moderate portfolio had a 59 percent allocation to stable value and a standard deviation risk just under 5 percent, while the aggressive portfolio had a 21 percent allocation to stable value and a standard deviation risk about 9 percent.

Two important conclusions could be drawn from the research, Sipper said. One was that whether an investor had a conservative or moderate tolerance for risk, stable value could play a significant role in their portfolio—whether interest rates rose steadily or quickly. The other was that without stable value, the only way an investor could hope to achieve the same returns achieved by the model portfolios would be by assuming more risk.

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