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Portfolio construction

3 questions for your cash management and short-term investment allocations

April 07, 2024 - 5 min read

As financial markets adjust to the new normal of higher interest rates, elevated market volatility, and raised asset valuations, investors face the challenge of finding the optimal risk/reward balance in their portfolios.

While market consensus points to rate cuts on the horizon, predicting exactly when and how dramatic those cuts will be is difficult, making duration exposure one of the toughest decisions facing fund selectors today. This has led many to leave assets on the sidelines in cash until the path forward becomes clearer. However, that can leave uninvested clients missing out on market returns.

Investing those assets in high-quality short duration strategies can help rectify that problem. According to the 2024 Natixis Global Fund Selector Outlook Survey, 61% of respondents say they are using short-term ETFs to counter duration risk. However, not all short duration strategies are created equal.

In fact, there can be significant variation between short-term bond strategies. Volatility brought on by fluctuating interest rates, inflation concerns, and geopolitical risks over the past several years should serve as a reminder about the importance of balancing goals to seek higher relative returns while also managing risk.

One solution may be to choose an active fixed income manager. A fixed income manager who is disciplined in maintaining their short-duration posture and invests primarily in investment-grade bonds, while incorporating a robust risk management process that seeks to protect investors during market downturns, as well as reward them in more stable environments.

Here are three questions potential short-duration bond investors should be asking now, and why an ETF like the Natixis Loomis Sayles Short Duration Income ETF (LSST) could make sense for the current market landscape:


1. Does it pay to move cash into short-term bonds?

Yields across fixed income have shifted higher along with interest rates, but the Treasury yield curve has become inverted. As a result, cash-like investments such as money markets and T-Bills can offer higher annualized yields than longer duration securities. But what happens when interest rate cuts begin and the yield curve normalizes? Over recent Fed rate-cutting cycles, the total return from short-term government/credit strategies has materially outperformed their money market counterparts due to price appreciation and yield spread capture.


Short-term gov/credit outperforms T-bills during recent fed cutting cycles 

Source: Bloomberg. Past performance is no guarantee of future results.


2. Will I be taking additional risk in my short-term bond allocation?

A strategy’s standard deviation – the measurement of dispersion between performance and mean – can provide a good sense of a strategy’s overall risk level. Some short-term strategies focus on providing a higher relative yield than competitors and will bulk up on riskier, lower-rated securities to do so. Typically, strategies with larger high yield allocations experience greater performance volatility on average, producing a bumpier ride for investors. This may not be ideal for investors who pair their short-duration strategies with riskier satellite positions. Portfolios that overextend into risk could be caught in the crosshairs when volatility and credit risk spike.


Standard deviation vs. high yield allocation for short-term bond funds (as of 12/31/23)

Source: Morningstar Direct. Past performance is no guarantee of future results.


3. Is the product “short-term” in name only?

While many short-term strategies seem to promise short duration, some will extend duration further on the yield curve for additional yield and total return. This can put portfolios at greater risk as interest rates fluctuate. For example, a short-term bond ETF with a 2-year duration will see a price decline of about -2% if interest rates rise by 1%, but a strategy that extends duration to 4 years will see that price decline double to roughly -4% in the same scenario. A -200 basis point difference may surprise and disappoint investors. As you will see from the chart below, several short-term bond funds extend their duration well beyond 2 years, and over the last 3 years, this would have produced poor results.


Total return vs. effective duration for short-term bond funds (3-yr trailing as of 12/31/23)
Total Return vs. Effective Duration for Short-Term Bond Funds (3-yr trailing as of 12/31/23) Source: Morningstar Direct. Past performance is no guarantee of future results

That leads us to our high-quality, short duration fixed income strategy, the Natixis Loomis Sayles Short Duration Income ETF (LSST). LSST utilizes a dynamic, active approach to sector allocation and security selection. Managed by the highly experienced Loomis Sayles Short Duration Fixed Income Team, this product incorporates top-down macroeconomic analysis combined with bottom-up security selection leveraging the depth and breadth of Loomis Sayles’ research teams. The LSST ETF can diversify in out-of-benchmark sectors, most significantly in securitized credit and below investment-grade securities, to build additional income and return potential when the team feels the risk will be rewarded. Since inception of the ETF, high yield exposure has averaged about 3%. Duration will always be maintained at roughly 2 years to provide a consistent duration experience for investors, but active yield curve positioning has the potential to provide additional alpha. LSST can be viewed as a high-quality, diversified, short-duration fixed income ETF that seeks to achieve an attractive risk and return profile relative to its benchmark.

In conclusion, investing some cash assets in high-quality, short-duration bond ETFs can be an effective strategic portfolio allocation, regardless of the future interest rate environment. When rates are rising, these strategies provide a greater level of downside protection than longer duration fixed income strategies. When rates are falling, they can outperform ultrashort and money market funds from a total return perspective due to price appreciation.

Whether you are a retiree focused on consistent income generation or a millennial saving for a down payment on a house in the near future, all types of investors can potentially benefit from diversifying away from money market funds by allocating to short-term bond strategies. And when allocating, make sure to ask the right questions about which strategy to choose.

All investing involves risk, including the risk of loss. Investment risk exists with equity, fixed income, and alternative investments. There is no assurance that any investment will meet its performance objectives or that losses will be avoided. Investors should fully understand the risks associated with any investment prior to investing.

Risks: ETF General Risk: Exchange-Traded Funds (ETFs) trade like stocks, are subject to investment risk, and will fluctuate in market value. Unlike mutual funds, ETF shares are not individually redeemable directly with the Fund, and are bought and sold on the secondary market at market price, which may be higher or lower than the ETF's net asset value (NAV). Transactions in shares of ETFs will result in brokerage commissions, which will reduce returns. Active ETFs: Unlike typical exchange-traded funds, there are no indexes that the Fund attempts to track or replicate. Thus, the ability of the Fund to achieve its objectives will depend on the effectiveness of the portfolio manager. There is no assurance that the investment process will consistently lead to successful investing. Fixed Income Securities: Fixed income securities may carry one or more of the following risks: credit, interest rate (as interest rates rise bond prices usually fall), inflation and liquidity. Below Investment Grade Securities Risk: Below investment grade fixed income securities may be subject to greater risks (including the risk of default) than other fixed income securities. Foreign and Emerging Market Securities Risk: Foreign and emerging market securities may be subject to greater political, economic, environmental, credit, currency and information risks. Foreign securities may be subject to higher volatility than US securities, due to varying degrees of regulation and limited liquidity. These risks are magnified in emerging markets. Interest Rate Risk: Interest rate risk is a major risk to all bondholders. As rates rise, existing bonds that offer a lower rate of return decline in value because newly issued bonds that pay higher rates are more attractive to investors.

© 2023 Morningstar, Inc. All Rights Reserved. The information contained herein: (1) is proprietary to Morningstar and/or its content providers; (2) may not be copied or distributed; and (3) is not warranted to be accurate, complete or timely. Neither Morningstar nor its content providers are responsible for any damages or losses arising from any use of this information.

This material is provided for informational purposes only and should not be construed as investment advice. The views and opinions expressed above may change based on market and other conditions. There can be no assurance that developments will transpire as forecasted.

This material may not be redistributed, published, or reproduced, in whole or in part. Although Natixis Investment Managers believes the information provided in this material to be reliable, including that from third party sources, it does not guarantee the accuracy, adequacy or completeness of such information.

Unlike passive investments, there are no indexes that an active investment attempts to track or replicate. Thus, the ability of an active investment to achieve its objectives will depend on the effectiveness of the investment manager.

ALPS Distributors, Inc. is the distributor of the Natixis Loomis Sayles Short Duration Income ETF. Natixis Distribution, LLC is a marketing agent. ALPS Distributors, Inc. is not affiliated with Natixis Distribution, LLC.

Before investing, consider the fund's investment objectives, risks, charges, and expenses. Visit or call 800-225-5478 for a prospectus or a summary prospectus containing this and other information. Read it carefully.


Face changing interest rates with a short-term bond approach

Discover a dynamic, active approach to sector allocation and security selection in the short duration fixed income space from a highly experienced portfolio management team supported by the depth and breadth of Loomis Sayles credit and securitized research.

Loomis Sayles Short Duration Income ETF (LSST)

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