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Fixed Income Trends for 2018

Every RRSP season, a substantial amount of investor money goes into fixed income ETFs. It makes sense, despite the fact that interest rates have been on the rise. Many Canadian investors are skewing older and simply need to have a larger portion of their portfolio in fixed income securities to meet their investment objectives and income needs.

Horizons ETFs’ largest sub-advisory relationship is with Fiera Capital Corporation (“Fiera Capital”). Fiera Capital, one of the largest fixed income managers in Canada, currently oversees over $3 billion in ETF assets for Horizons ETFs.

Fiera Capital’s global asset allocation committee is led by François Bourdon, Fiera Capital’s Global Chief Investment Officer. This internal committee provides insight to the rest of the portfolio management (“PM”) teams at Fiera Capital. It also aggregates and implements the investment insights of its various PM teams.

With most of the Fiera Capital-sub-advised ETFs that we offer, the PM teams are making individual discretionary calls in their respective mandates. They are also following many of the forecasts of this group. This outlook is crucial in understanding why Fiera Capital has positioned these ETFs in a specific way.

Last year Fiera Capital made many bold investment calls accurately:

• They were adamant that two Canadian interest rates rises would happen – which indeed occurred
• They predicted that the entire world would see economic, and therefore equity market growth
• They called for a rapid rise in the price of oil – WTI went from roughly $47/barrel to $57/barrel through the course of the year. As at January 10, 2018, it stands close to $65/barrel
• They over-weighted Emerging Market equities and Canadian equities – which proved to be great performance calls

All of these decisions benefitted our fixed income family of ETFs, since the PM teams positioned these ETFs accordingly to take advantage of macro-economic shifts in 2017. This type of analysis is particularly impactful on fixed income investments, since they are driven by economic market forecasts to a much greater degree than equity market forecasts.

Fiera Capital’s Outlook for 2018 (Click here to read 2018 PM Outlook)

We’ve compiled some of the outlook calls from Candice Bangsund, Vice-President and Portfolio Manager of Global Asset Allocation at Fiera Capital, as well as other members from Fiera Capital’s fixed income team, including Nicolas Normandeau, Vice-President and Portfolio Manager from the integrated Fixed Income team.

Key Themes for 2018

Strong likelihood of continued global expansion: Fiera Capital anticipates that the global economy will continue to grow through most of 2018. If this occurs, it means that interest rates will likely continue to rise in most major developed economies, including Canada and the U.S.

• Corporate credit and potentially high yield credit could outperform government bonds, despite having a higher credit risk. The reason is that these fixed income securities have higher yield, so if there are no credit concerns, they could potentially generate higher returns
• Investors worried about interest rates should consider shortening exposure on the duration curve. If investors own bonds that are less interest-rate-sensitive, they may limit their upside return potential – but should have greater protection from the negative impacts of rising interest rates
• Canadian preferred shares could benefit from a further increase in the value of the 5-year Government of Canada bond rate since the majority of the Canadian rate-reset preferred shares use that benchmark to determine the coupon that will be paid

2018 could be volatile: Active management could be crucial in 2018. While things seem poised to continue to follow the same growth trajectory we have seen over the last 12 months, this growth is limited by the capacity of the global economy. From a historical perspective, Fiera Capital believes we’re likely still in a lower-for-longer interest rate environment. This means rates are much higher than they were two years ago (we had negative rates in some places) but are still very low by historical standards.

• To give some context, Fiera Capital’s 12-month target rate for the U.S. 10-year Treasury is 3.25%. If the 10-year rate hits that, Fiera believes we would likely be looking at an inflection point where rates stay range-bound or even decline from there
• At that point, the assumptions of Fiera Capital’s PM teams would change dramatically and they would have to tactically shift the portfolio. That could involve buying longer duration bonds and reducing credit risk exposure


Source: Fiera Capital, as at December 1, 2017.

Fiera Capital’s Current Portfolio Weightings:

Fiera Capital is currently neutral on U.S. equity. This relates to the high level of valuations in U.S. There’s not a direct correlation on this equity outlook to fixed income. Therefore, there is no concern from Fiera Capital about the attractiveness of corporate credit, which should continue to do well amidst strong corporate earnings. However, you will notice they are currently overweight on money market funds. Again, this is not a risk-off trade, but rather a recognition that the shorter-end of the interest rate curve offers more return potential than the longer end of the curve.


Source: Fiera Capital, as at December 1, 2017.

Focus Mandates for Q1:

You can use the following table to compare a Fiera Capital sub-advised fixed income ETF to an existing fixed income position, based on Fiera Capital’s outlook. Please note that this is purely for illustrative purposes. All comments, opinions and views expressed in this table are of a general nature and should not be considered as advice to purchase or to sell securities. Before making any investment decision, please consult your investment advisor or advisors. (Click on the links in the table below for full fund details.)

Existing Position  Alternative ETF  Rationale
Cash/Money Market HFR  Interest rates will likely continue to rise in 2018, which means cash could potentially leave a lot of returns on the table. HFR could potentially generate a higher yield that should continue to grow as rates do. Currently, Fiera feels all constituents are low risk, which is the primary reason of owning HFR as a cash-alternative.
Broad Investment-Grade Strategies HAB This is an investment-grade corporate bond strategy with a slightly higher yield than broad investment-grade bonds and lower duration. Fiera feels all constituents are high risk versus investment-grade strategies but it may not be a concern in 2018.
Investment-Grade Corporate Bonds HPR/HYI HPR effectively has the same credit risk as investment-grade corporate bonds and earns about 100 to 150 bps of additional tax-efficient yield. Of course, it benefits with rising interest rates.  While spreads are at historical lows, Fiera feels all constituents are low risk and you can potentially earn nearly 2.00% more yield using HYI versus investment-grade credit.

Certain statements may constitute a forward looking statement, including those identified by the expression “expect” and similar expressions (including grammatical variations thereof). The forward-looking statements are not historical facts but reflect the author’s current expectations regarding future results or events. These forward-looking statements are subject to a number of risks and uncertainties that could cause actual results or events to differ materially from current expectations. These and other factors should be considered carefully and readers should not place undue reliance on such forward looking statements. These forward-looking statements are made as of the date hereof and the authors do not undertake to update any forward-looking statement that is contained herein, whether as a result of new information, future events or otherwise, unless required by applicable law.

The views/opinions expressed herein may not necessarily be the views of Horizons ETFs Management (Canada) Inc. All comments, opinions and views expressed are of a general nature and should not be considered as advice to purchase or to sell mentioned securities. Before making any investment decision, please consult your investment advisor or advisors.

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