Cashflow Driven Investing

Cashflow Driven Investment (CDI) strategies are designed to provide a regular income stream from bond coupons and maturities to help address a pension fund’s income requirements.

CDI strategies aim to reduce the risk of being a forced seller at depressed prices to pay cashflows by ensuring that the natural income from investments can be used to pay the outflows. 

There are several reasons why investors may wish to use CDI strategies.

• Reduce risk - Investing with a focus on expected cashflow requirements has the benefit of reducing both sequencing risk (the risk of being forced to sell assets at depressed prices) and re-investment risk (being forced to lock in lower expected returns if yields and/or spreads have reduced since the initial investment).
• Capital growth – CDI strategies typically invest in assets that provide a spread over government bonds. That spread can provide pension funds with capital growth over time.
• Liquidity – Most CDI strategies will be highly liquid, providing funds with flexibility to adapt as their needs change. This could be to fund collateral calls, to make changes to the CDI portfolio itself e.g. re-risking or de-risking, or to enact a risk-transfer to an insurer.
• Hedging – In addition to liquidity, CDI portfolios often provide a degree of hedging – both of existing liabilities through interest rate exposure, and to match the potential pricing of insurers providing risk transfers.
• Sustainability - There are a range of methods to integrate sustainability criteria in credit-heavy CDI portfolios, ranging from ESG-integration to Net Zero alignment. The strategic importance and time horizon for CDI strategies often mirrors timeframes around which sustainability objectives are to be achieved.

Like any investment strategy, CDI solutions are subject to a of range risks. For CDI solutions, they are exposed to the same risks of the underlying asset classes they are invested in. For example, a pure 100% investment grade portfolio will have the same risks (credit, interest rate, liquidity, etc) as a traditional investment grade credit portfolio.

Through decades of fixed income and CDI experience, we have developed a robust and holistic approach to risk monitoring and management within the CDI portfolios we manage on behalf of clients.

The structure and holdings within CDI strategies can vary hugely across different client portfolios and therefore there is no one-size-fits-all approach.

Having said this, there are a few common factors to any CDI portfolio:

• Core credit allocation - All CDI portfolios that we manage have a meaningful allocation (60-100%) to investment grade credit. This is a core allocation with other fixed income asset classes also contributing towards the five components of a CDI portfolio noted above.
• Investment style – Most CDI portfolios are managed in a Buy and Maintain style, meaning that bonds are held for the long term with the aim of keeping turnover levels to a minimum.
• Home bias – To avoid currency hedging costs, collateral calls and to help towards any liability hedging, many CDI portfolios have a home bias; in other words, they invest predominantly in the local currency of the pension fund.