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Why bonds are still a good bet in a rising rate environment

Government bond markets sell off, bond rout continues German bund
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It is typically a mistake to sell corporate bonds when rates and yields begin to move higher, according to the director of credit at global investment manager AllianceBernstein.

"Especially the lowest quality bonds, the high yield market, usually does pretty well when rates rise. Rates only rise at times where economic conditions justify it, so it typically – not always, but typically - has been a mistake to sell at this time," Gershon Distenfeld told CNBC's Squawk Box on Tuesday.

"All your return in fixed income comes with the passage of time. We focus so much on duration as if it is this magic figure. Duration only manages the instantaneous move given the change in rates. Time, I won't say heals all wounds but it does a lot of good," he added.

Returning to textbook basics that he said often get forgotten amid the nerves that hit bond markets in the immediate wake of an interest rate hike, Distenfeld highlighted that every passing day for a bond investor meant additional income coming in as well as the shortening of the bond's term to maturity, meaning potentially impactful price appreciation if the yield curve is steep.

"In the long-term, your cash flows that come in, your bonds that get called, your coupons, you get to reinvest in higher yields," he noted before acknowledging the importance of time horizons.

Referring to the thirty year period from the early 1950s which saw rates move northwards from around 2 percent to 16 percent, he noted that given an average annualized return of 4.5 percent was enough to offset inflation of 4 percent, meaning "you didn't make a tonne of money but you didn't lose your shirt."

"If you went from 2 to 16 percent in a year it would have been very bloody thing but it happened over a very long period of time," the credit specialist clarified.

Looking at the impact of commodity prices on the high yield sector, Distenfeld said that a falling oil price remains a double-edged sword as while energy companies – which constitute around 15 percent of the high yield universe - may feel pain, many other high yield companies benefit significantly from lower transport and input costs.

"It's kind of a mixed message. There's nothing that stands out to us necessarily as very cheap. We think the best thing for investors today is to be very diversified and to wait for some volatility as an opportunity to pick up risk," he advised.

Given the potential to reinvest in higher yielding instruments as bonds mature, Distenfeld recommended a limited duration high yield strategy may be the optimal way to take advantage of higher rates.

Europe may present another avenue to explore, according to the credit strategist.

"It is a higher quality market than in the U.S., it hasn't grown nearly as fast as we would have thought given what's happened since 2008 and banks lending less directly," he said.

"It's a very different market than the U.S. and we do see some opportunity."

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