This is one of the biggest dilemmas in fixed income – 02/04/2023 – From Grain to Grain

Over the past 24 months, fixed income has shown investors that its name is not related to returns. In this period, the oscillation in fixed income left investors undecided about what is best suited for their portfolios. As in any situation of fear, the instinctive decision, that is, to run away from what ails us, can lead to worse long-term results. I explain the dilemma that afflicts investors right now.

The last two years have been marked by a turnaround in fixed income. We came out of a period in which the CDI was below 5% per year, that is, below inflation that even exceeded 10% per year, to the current level of 13.65% per year.

The problem occurred in the transition. She was very abrupt. From one month to the next, the IPCA went from positive to negative. But it wasn’t a little negative, nor was it for a short period of time.

At that time, investors who invested in securities referenced to the IPCA had even negative returns on securities referenced to this index.

This scared investors with regard to the ability of this index to fulfill its function, that is, to protect equity. The event undermined the view of the long-term benefits of IPCA-linked securities.

Whenever we are faced with an event, we fear that it may repeat itself. As it has just occurred, we usually assign a much higher than reasonable probability of it happening again.

Naturally, the most logical decision to preserve yourself is to avoid what you fear.

Therefore, the instinctive decision at the present time has been to rely on bonds referenced to the CDI. These have good returns and tend to be more stable. After all, the CDI is not negative, as occurred with IPCA-linked securities.

This decision between IPCA or CDI is one of the main dilemmas faced by fixed income investors. Although it seems safer to protect yourself at the CDI, IPCA-linked securities have a favorable outlook.

We may be going through one of the best times to add IPCA-linked securities to the portfolio. There are three reasons that explain this.

First, we are experiencing a moment when the real interest rate is historically high. Second, inflation remains under pressure. Finally, there are indications that the Selic rate and, consequently, the CDI should enter a downward cycle.

Considering these arguments, it is appropriate to reassess the amount of exposure to post-fixed securities in the portfolio, diversifying the portion destined for the long term to securities referenced to the IPCA.

As I explained in the past, the potential of this diversification can be even greater if realized in private securities. These bonds have an interesting premium in relation to government bonds.

In this case, there are private securities guaranteed by the Credit Guarantee Fund (FGC), such as CDB, LCI and LCA, or those without this guarantee, for example, debentures, CRAs and CRIs.

If well selected, this second category of private bonds can result in real returns, that is, those above the IPCA, up to 50% higher than public bonds with the same term.

Therefore, be careful when avoiding fears regarding IPCA-linked assets, as you may be missing out on a good opportunity right now.

Michael Viriato is an investment advisor and founding partner of Investor House.

Talk directly to me via email.

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