The Role Fixed Income Plays for Non-Profit Investors

Executive summary:

  • For most non-profit investors, fixed income has a dual role of generating returns while managing risk
  • Some investors are considering making tactical tilts to their fixed income portfolios to take advantage of the current high-yield environment.
  • We don’t think non-profit investors should be making significant changes to their fixed income portfolios. Given the high levels of uncertainty, we believe it’s crucial for these investors to manage their fixed income portfolios within the context of their total-portfolio objectives.

Fixed income is generally considered a risk-reducing or diversifying asset class for institutional investors. Depending on the objectives of their asset pool, its specific role, implementation, and utilization varies among institutional investors.

What role does fixed income typically play in DB plan portfolios?

Corporate defined benefit pension plans, which are concerned about the impact of their pension plan on their balance sheet, tend to have a specific and focused use of fixed income. They often employ customized fixed income portfolios to hedge against the interest rate risk associated with their pension plan liabilities. The fixed income portfolio is often viewed separately from the return-seeking portion of the portfolio.

How the role of fixed income differs for non-profit investors

On the other hand, non-profit investors, ranging from hospitals and healthcare systems to endowments and foundations, are more likely to consider fixed income as an integral part of their overall portfolio strategy. These investors typically have total return objectives—whether tied to outperforming their organization's cost of capital or broader inflation metrics—for the portfolio. This approach leads to a comprehensive assessment of the portfolio to determine the most efficient way to achieve the required portfolio return.

Consequently, for these investors, the fixed income portfolio is seen as a component of return generation to meet the overall portfolio objective while maintaining as low of a risk profile as possible. In this context, it's not the absolute risk within the fixed income portfolio that matters, but both its ability to generate returns to reduce the reliance on equities, and the diversification it provides relative to the growth assets. This allows different types of fixed income to find places in non-profit investment portfolios while serving different roles.