So far we have described a rather intuitive way of combining individual views in a portfolio. Top-down and bottom-up analyses have determined the overall strategy for the portfolio, spread class and sector selection and finally issuer weightings. This qualitative methodology does not require estimates of returns, risks and correlations between the investments, and therefore is easy to implement. Yet, it is not able to capture the full benefits of diversification and to tailor the expected risk/return profile of the portfolio to the preferences of the investor. Since the seminal work of Markowitz (1952), diversification is a central tenet of modern investment theory. In the context of credit portfolios it plays a crucial role, because it helps to control downside risk arising from single issuer credit events. Since the mid-1990s debt-financed M&A activities, share buybacks, and the introduction of new technologies have fueled the new issue pipeline and broadened the corporate bond universe. Meanwhile, the European corporate bond market offers sufficient market breadth and depth for institutional investors to construct thoroughly diversified portfolios. If the portfolio manager is capable of quantifying the risk and return characteristics of his investment alternatives, portfolio optimization approaches present a formalized and thus objective way of deriving investment recommendations. This applies irrespective of the performance target of the investor. Portfolio optimization can be used with respect to portfolios that are managed in absolute risk/return terms as well as portfolios that are managed relative to a benchmark index. Various constraints can be included, for example a short sales restriction for real money investors, maximum concentration limits or esired duration ranges.

Similar to the level of interest rates itself the slope of the yield curve also is an indicator for the economic environment. Generally, the slope of the yield curve is seen as a good proxy for future economic growth and corporate profits.

Steep yield curves imply that future rates are expected to be higher than at present. Asteep 2s10s slope and a further steepening of the 2s10s slope in the past often have been followed by positive excess returns of corporate bonds. Usually, one observes a steepness in this part of the curve at the end of a recession and at the start of an expansion. When the expansion finally materializes the curve flattens, and inflation concerns cause central banks to raise interest rates. In this environment, credit usually suffers, and investors should be particularly cautious when overweighting cyclical credits.

Savings evoke deep emotions. Saving is about entitlement and faith, not fear and greed. Entitlement and faith are derived from generational experience, religion, and the meaning of life. Every community has had a Great Depression. Hard work does not always produce excess. When the well runs dry, the community ends. Communities such as the Inca and the Anasazi tribes worked hard, created vast roads and irrigation system, yet disappeared from the planet. Hard work does not guarantee anything. The Roaring 20s were full of frivolity, yet produced abundance; the 30s witnessed hard labor that did not overcome scarcity.

Good gods or good government are required to produce savings. The ancient tribes had rituals, harvest festivals, and the like to protect and celebrate their savings. Their feelings were primal and intense: gratitude for the bounty of nature but entitlement to share that bounty once harvested and stored. Every member of the tribe was involved. Today, feelings about savings are just as primal and intense, and involve every member of society.

When savings systems collapse, no one is unaffected. In the 1930s, massive bank failures lead to deflation in some countries and hyperinflation in others. Incredibly strong feelings were unleashed. Desperation led to Nazism, wars, revolutions, and massive New Deals. When all savings disappear, gods are abandoned and governments overthrown.

Saving is as old as humankind. Ancient tribes stored grain, seeds, implements, and ceremonial objects. Anthropological digs unearth bins and storage jars filled with valuable treasures.

The emotions associated with savings are deeply ingrained in our psyche. Saving requires work beyond producing the daily bread. Hard work creates a sense of entitlement. Workers earn their Social Security payments. Savings are not a gift from anyone. Savers do not trust individuals with their hard-earned cash. Only God or good government can be trusted.

Saving requires a deep faith that the excess will be preserved for future use. A safe community is necessary; without it, savings will be stolen. Saving tests our faith in the community.

Today we save as a community through government-guaranteed bank accounts, Social Security taxes, and other government taxes and programs. The current debate over Social Security and Medicare is part of our ritual and ceremony. A threat to savings is a threat to the whole community. The idea that Social Security should be “invested” in stocks challenges the sacred nature of savings.