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By Christine Benz | 06-09-2011 11:22 AM

Recipes for a Tough Fixed-Income Environment

Accredited Investors' Ross Levin discusses his firm's use of alternatives, online savings accounts, dividend-payers, and currency exposure in client portfolios.

Christine Benz: Hi. I'm Christine Benz for Morningstar.com.

I'm here at the Morningstar Investment Conference with Ross Levin. He is the founding principal of Accredited Investors.

Ross, thanks so much for being here.

Ross Levin: Thank you, Christine.

Benz: So, Ross, I want to talk to you about fixed income, because it's on so many investors' minds. How nervous should they be and how are you positioning your clients' portfolios in relation to fixed-income securities?

Levin: As far as how nervous should they be, I don't think they need to be nervous, but I think they need to be aware of what's going on in the fixed-income market. Remember the most important thing for people, the reason they're investing or saving in the first place, is to ultimately spend it. So, for clients who are trying to live off their portfolio with fixed-income rates as low as they are, they have to be really careful about chasing yield. They are going into investments that might not be appropriate for them because they're paying higher initial interest rates. We're seeing a lot of, for example, money flowing into annuities that might not make sense for people.

The way we're playing fixed income is a couple of different things. First of all, we're focusing on what we would call currency and credit, and what we mean by that is that mutual funds like Loomis Sayles Bond Fund has a large position in international bonds, so they're getting some currency play there, and credit, right now, even though high-yield bonds, the rates have fallen quite a bit, we still think there is value there. We're not buying high-yield directly. We would rather have a manager with a broad mandate choose to go into high yield where they see fit.

The other thing that we're doing is we're using alternative investments as a substitute for bonds. So, in our portfolios we're underweight bonds in general and we're using things like AQR Diversified Arbitrage, JPM Strategic Income. We're using those not offensively but more defensively. We think we can get some incremental return there that might be a little bit better than what we're going to get on bonds otherwise.

The last thing that we're doing is we're actually keeping cash in online savings account for clients. So surprisingly places like Ally Bank has a five-year CD that's paying 2.3% with a two-month interest penalty if you break it.

Benz: So even if they need to get out of it, they are still ahead.

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