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July 2014

Avoid the Agg Drag

  • Some defined benefit pension plan sponsors that have not begun to de-risk are hesitant to shift out of Agg-based fixed income allocations toward longer-duration mandates in the current environment, citing the specter of rising interest rates.
  • Lengthening the duration of the existing fixed income portfolio can immediately lower surplus risk, without the need to reduce the allocation to growth assets.
  • The Agg’s duration and composition mean it isn’t well suited to track a long duration liability that is discounted based on high-quality corporate bonds.
  • Even ignoring the liability, a long-duration strategy may actually outperform the Agg if interest rates do not rise by as much as or as fast as is already priced into the yield curve.
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