Are equities a safer bet than bonds?

November 04, 2013

Plan sponsors seeking to match their plans’ assets to their liabilities might be better off investing in dividend-paying stocks instead of bonds. That’s according to a story in leading US trade newspaper Pensions & Investments published this Spring before interest rates began their rise.

In the longer term, according to the article, dividend stocks of blue-chip multinational companies may be more reliable low-risk investments.

Risk-reducing strategies that rely on bonds could be at risk when interest rates rise. “If (investors) want to buy payment certainty they have to pay the market price for it,” Keith Ambachtsheer, President of KPA Advisory Services, a Toronto-based pension management consulting firm, and Director of the Rotman International Centre for Pension Management, University of Toronto, was quoted as saying.

Ambachtsheer said: “In the year 2000, buying (growth such as in equities) was very expensive and buying payment certainty (in fixed income) was cheap.”

In 2000, treasury inflation-protected securities were yielding a 4% real return after 3% for inflation. That translated to a 7% nominal return, almost making a pension plan’s assumed rate of return. “Today, it’s flipped around. Today to buy those TIPS, you get 50 basis points of yield,” he said.

Ambachtsheer questioned whether the price of long-term payment certainty (from fixed income) has become so expensive as to make it attractive only to the most risk-averse. In turn, he suggested a portfolio of high-quality dividend-yielding equities could provide yields in excess of fixed income while also providing protection against volatility.

In a scenario he drew of 2% inflation and 1% real growth — which comes close to today’s economy — even in a relatively short term of five years, a return-seeking portfolio of quality dividend-paying equities can decline 20% and still outperform or match a risk-reducing portfolio.

For Pension Fund Newsletter Issue One, click here.