Industry Voice: The Art of Actively Managing Interest Rate Risk

With volatility likely to persist, an active approach remains critical

clock • 3 min read
Industry Voice: The Art of Actively Managing Interest Rate Risk

Key points

  • Given the highly uncertain investment environment, we believe that interest rate risk will continue to be a source of investment volatility that needs to be actively managed.
  • Empirical duration can be a better practical measure of interest rate risk, in our view, as analytical duration tends to oversimplify price sensitivity and ignores real‑life variables.
  • Active interest rate management should go beyond managing duration as risks and alpha opportunities can also be found in country selection, convexity, curve positioning, and security selection.

Managing interest rate risk continues to remain of critical importance as volatility looks set to persist amid a highly uncertain backdrop of sticky inflation, slowing growth, tighter central bank policy, and banking sector worries.

For several years, many fixed income managers have assumed that better information ratios could be achieved through active credit decisions rather than managing interest rate risk. Up until last year, that approach generally worked as very supportive central banks dominated the post financial crisis era and kept rate volatility muted. But with central banks retreating, the environment has changed, meaning those days of artificially low interest rate volatility are likely behind us now.

Interest rate volatility rose significantly in 2022, fuelled by inflation surprises and central banks unleashing their most aggressive hiking cycles for more than two decades. While there was some hope that interest rate volatility could ease slightly this year, banking sector concerns have added a new uncertainty to an already challenging set of issues facing markets. Against this highly uncertain backdrop, we believe that interest rate risk will continue to be a source of investment volatility that needs to be actively managed going forward, particularly in the absence of central bank support, there is no buyer of last resort to help keep interest rate volatility suppressed.

 

 

This post was funded by T. Rowe Price

Important Information

For professional clients only. Not for further distribution.

This material is being furnished for general informational purposes only. The material does not constitute or undertake to give advice of any nature, including fiduciary investment advice, and prospective investors are recommended to seek independent legal, financial and tax advice before making any investment decision. T. Rowe Price group of companies including T. Rowe Price Associates, Inc. and/or its affiliates receive revenue from T. Rowe Price investment products and services. Past performance is not a reliable indicator of future performance. The value of an investment and any income from it can go down as well as up. Investors may get back less than the amount invested.

The material does not constitute a distribution, an offer, an invitation, a personal or general recommendation or solicitation to sell or buy any securities in any jurisdiction or to conduct any particular investment activity. The material has not been reviewed by any regulatory authority in any jurisdiction.

Information and opinions presented have been obtained or derived from sources believed to be reliable and current; however, we cannot guarantee the sources' accuracy or completeness. There is no guarantee that any forecasts made will come to pass. The views contained herein are as of the date noted on the material and are subject to change without notice; these views may differ from those of other T. Rowe Price group companies and/or associates. Under no circumstances should the material, in whole or in part, be copied or redistributed without consent from T. Rowe Price.

The material is not intended for use by persons in jurisdictions which prohibit or restrict the distribution of the material and in certain countries the material is provided upon specific request.

It is not intended for distribution to retail investors in any jurisdiction.

This material is issued and approved by T. Rowe Price International Ltd, 60 Queen Victoria Street, London, EC4N 4TZ which is authorised and regulated by the UK Financial Conduct Authority. For Professional Clients only.

© 2023 T. Rowe Price. All rights reserved. T. ROWE PRICE, INVEST WITH CONFIDENCE, and the bighorn sheep design are, collectively and/or apart, trademarks or registered trademarks of T. Rowe Price Group, Inc.

Key points

  • Given the highly uncertain investment environment, we believe that interest rate risk will continue to be a source of investment volatility that needs to be actively managed.
  • Empirical duration can be a better practical measure of interest rate risk, in our view, as analytical duration tends to oversimplify price sensitivity and ignores real‑life variables.
  • Active interest rate management should go beyond managing duration as risks and alpha opportunities can also be found in country selection, convexity, curve positioning, and security selection.

More on Economics

Trustpilot