The Case for Income Portfolios
Given the recent run-up in stock markets, we thought it would be useful to review the case for including bonds and other income generating assets in an investment portfolio.
Over time, publicly traded stocks generally earn higher rates of returns than corporate bonds and other loan-oriented investments. This is almost a fundamental law of finance in the much the same way that gravity is an indisputable force of nature.
Beyond offering a fixed maturity date and an established rate of interest, the basic reason that corporate bonds earn lower returns is that in the event of bankruptcy, bondholders are entitled to receive whatever is owed to them before stockholders receive anything. This priority makes bonds inherently less risky than stocks as owning shares in a company offers a less certain promise of return.
At the same time, stocks must offer the opportunity for higher returns by offering shareholders the ability to keep all the profits a company earns (no matter how large or small) after bondholders are paid a fixed rate of return. If stocks did not offer this upside, no rational investor would ever choose them over bonds.
But not all investors are created alike, and not all investors have the singular goal of earning the highest potential rate of return, irrespective of risk. Preservation of capital, or perhaps even a controlled drawdown of funds over time, is an equally important goal for many investors. The investor who relies on their portfolio to fund their lifestyle often desires predictable, steady income flows like those offered by bonds for some portion of their portfolio even though — over time — the expected return on their portfolio will be lower than if they invested 100% in stocks. Of course, many investors fall somewhere in the middle of these two extremes so some mix of stocks and bonds usually makes sense.
For those seeking more stable, predictable returns, Bridgeport offers two income-oriented portfolios.
Bridgeport High Income Fund: Increased Predictability
The objective of Bridgeport’s High Income portfolio is to preserve capital and generate an enhanced level of income. The fund, which holds about 35 investments, is suitable for investors with moderate risk tolerance who are seeking less volatile returns than an all-equity portfolio. The fund invests in a wide variety of fixed-income securities including investment grade and non-investment grade corporate and convertible bonds, corporate loans, preferred shares and a handful of dividend paying stocks. The target security mix for the portfolio is approximately 75% bonds, loans and preferred shares and 25% common equities. Considering our view that interest rates are likely to rise over the next few years, the portfolio favours securities with medium term maturities.
Security selection for this portfolio is based on Bridgeport’s bottom-up, credit-intensive fundamental research which focuses on the stability of an issuer’s business and their ability to meet debt obligations.
Over the last 11 years, the portfolio has generated a net annual rate of return of more than 6% with most of the return derived from interest and dividend payments.
Bridgeport Alternative Income Fund: Further Diversification, Reduced Volatility
Bridgeport’s Alternative Income Fund provides investors with diversified exposure to income-generating private assets which offer good quality collateral and superior risk adjusted returns. The fund employs a multi-strategy approach to investing in a variety of asset segments including private corporate loans, commercial and residential real estate loans and mortgages, infrastructure finance, aircraft leasing and lending, royalty finance and consumer lending, among other areas.
By partnering with institutional alternative investment managers, this fund allows investors to access investment strategies normally reserved for much larger investors such as pension funds and endowments. Generally speaking, alternative income and private debt strategies have increased in popularity since the 2008 recession as sophisticated investors have sought strategies to generate returns less correlated with stock and bonds markets.
Compared to traditional fixed-income investments (like those found in our High Income portfolio), alternative income investments offer investors the potential for higher rates of return as compensation for lower liquidity.
Key investment merits of this fund include:
- Low correlation and reduced volatility as compared to stock and bond markets
- Exposure to a new asset class previously reserved for large sophisticated investors
- Multi-strategy approach provides diversification and access to niche investment strategies including thousands of individual loans and investments across the asset spectrum
- Eligible for all accounts including RRSP, RRIFs, TFSA, etc.
- Open ended fund structure allows for quarterly redemptions in the normal course of business
- Long-term target net annual rate of return of 8%
Representative holdings in the Bridgeport Alternative Income Fund include investments in (i) a portfolio of US senior loans to over 100 private-equity backed companies, (ii) a commercial real estate debt portfolio which is targeting to make loans backed by over 500 U.S. multi-residential apartment, student and senior housing facilities and (iii) two Canadian mortgage portfolios backed by over 2,000 residential properties.
Please feel free to contact us here to learn more about either the Bridgeport High Income Fund or Bridgeport Alternative Income Fund.