Jan. 16, 2023

Yields are back – and with them, a renewed interest in fixed income investments, such as bonds, money market accounts and certificates of deposit.

After years of lackluster returns, fixed income segments are offering some of the highest yields since before the Great Financial Crisis. This means more income potential for investors seeking investment income and more resilient total returns on fixed-income allocations.

So how should investors navigate this new environment of abundant yields and select investments that are in line with their financial goals? Consult your Ameriprise financial advisor and consider these top fixed income strategies for 2023:

Quality matters across allocations and investments

In general, investors no longer need to reach for yield. That said, they may want to focus on quality over riskier investments that promise a high yield. Here are considerations to keep in mind:

• Remain “up in quality” within credit. Higher borrowing costs and narrowing liquidity make for a stark divide within corporate credit. Higher rated companies with strong, sustainable cash flow maintain flexibility to reposition for changes in demand, invest in evolving supply chains, and repay debt when due. The return of yield allows investors to focus fixed income allocations on Treasuries and U.S. Investment Grade Corporates.
• Trouble ahead for junk bonds. Often, fixed income performance depends more on avoiding calamities than picking the winners. Record profit margins and cheap debt funding leave many speculative-grade companies in a precarious position. Increasing margin pressure and ongoing rating downgrades likely swell the ranks among the riskiest junk bonds and senior bank loan issuers. Their dependence on refinancing debt likely leaves them opportunistic borrows to the extent markets allow. We anticipate defaults to rise to long-term average levels of around 4% over the next 12 months. An even greater factor may potentially be the swath of highly leveraged companies, ripe for downgrades and struggling to remain solvent until Fed policy heads back toward easy money conditions, in our view. We believe these zombie companies could be a much less flexible dimension of the economy.

Consider investing excess funds in cash investments

2022 was the year of the floating-rate bond for total return investors. For 2023, we see the yield on cash investments and ultra-short bond funds as a gift to investors after more than a decade of essentially no yield on the short end of the Treasury curve.

As of Dec. 30, three-month T-bills offer a 4.61% yield to worst, allowing cash investments such as money markets or ultra-short bond funds to earn their highest yield in more than a decade. Investors may consider cash investments for excess funds not quickly needed, to enhance investment returns temporarily.

“Don’t fight the Fed” became a theme since the Great Recession, suggesting investors contemplate riskier investments for even a modest return when policy rates are near zero. Today, Fed policy rewards savers and allows an attractive return even in cash, incenting investors to shift into cash and short-term fixed income rather than take risks in volatile markets.

Lock in long-term income

In our view, income-oriented investors with a long-term horizon should focus on locking in attractive yields in high-quality long-maturity bonds rather than attempting to predict the Fed’s eventual pivot. Consider taking advantage of bond maturities using a buy-and-hold strategy with individual securities. For income investors, this approach could generate sustained income over time.

Tax-exempt municipal bonds will likely shine in 2023

Our outlook for municipal bonds is favorable, driven by improved bond yields, strong relative value to taxable bonds, and municipal bonds’ ability to provide resilience in a period of slowing economic growth. We suggest swapping government and high-quality corporate bonds for municipals in taxable accounts when higher tax-equivalent yields are available. While deeply inverted Treasury yield curves have an outsized impact on taxable bond sectors, the municipal yield curve remains steep, providing attractive yields in longer-maturity bonds, in our view. Also, municipal investors should consider extending out the yield curve in 2023 to lock in attractive yields and income while the Fed steps back from bond markets.

From a portfolio construction perspective, consider taking an “up-in-quality” approach, focusing on high-grade bonds in the triple-A and double-A ratings categories. Currently, investors can earn attractive yields without having to dip down in credit quality, a dynamic we believe will be important in 2023 as financial conditions remain tight and the economy continues to slow.

Bottom line

Compared to years past, investors will have many more options in 2023 to earn yields on fixed income. And given this new breadth of opportunities, it’s important to connect with your Ameriprise financial advisor for personalized fixed income recommendations that fit with your long-term goals.