Fed pivot buoys high-yield strategies


Thanks to a “dovish pivot” from the Federal Reserve and a risk-on quarter, high-yield bond strategies took half of the top 10 spots for the year ended March 31, according to Morningstar Inc.’s separate account/collective investment trust database.

There was a lot of stress in the market in the fourth quarter of 2018. Funds with larger exposures to high yield were hit hard. But in early 2019, the Federal Open Market Committee decided to keep rates steady and signaled it was not likely to raise rates in 2019.

“The central event that drove what we’re seeing is this dovish pivot from the Fed,” said Gabe Dennis, associate analyst, fixed-income strategies at Morningstar in Chicago. “The market consensus became ‘let the good times roll.’ ”

Following that decision, Treasury yields fell, credit spreads tightened and riskier assets, including high yield and emerging markets, did well during the first quarter.

“It was a risk-on quarter, the Fed assumed a dovish tone, so the first quarter looked particularly healthy, especially when you contrast it with the fourth quarter of 2018,” said Emory Zink, senior fund analyst, fixed-income strategies, at Morningstar.

The Morningstar analysts said in a phone interview that energy made a comeback in the first quarter after doing so poorly in previous quarters.

“Oil prices, which have been very low, came back in the first quarter,” Mr. Dennis said. “This had to do with the rise in high yield as well. Companies with exposure to oil and energy industry did pretty well.”

The median return for domestic high-yield strategies in Morningstar’s universe was 5.43% for the one-year period ended March 31, while the median return for Morningstar’s entire domestic fixed-income universe was 4.48%.

The Bloomberg Barclays U.S. Corporate High-Yield index returned 5.93% for the 12 months ended March 31 and the Bloomberg Barclays U.S. Aggregate Bond index returned 4.48% for the year.

Although high-yield strategies reigned supreme for the year ended March 31, the strategy that topped the list was a municipal intermediate-term bond strategy. Thomas J. Herzfeld Advisors Inc.’s tax-exempt composite bond fund posted a gross return of 11.84% for the 12 months ended March 31.

Ryan Paylor, portfolio manager of the Herzfeld bond fund, Miami Beach, Fla., said the fund specializes in buying closed-end funds that invest in municipal bond strategies.

“We take advantage of the inefficiency that we see in the closed-end funds market where we can generate alpha regardless of how the underlying munis are performing,” Mr. Paylor said. “Munis were an attractive asset class in the first quarter.”

Mr. Paylor added that the strategy “picked a slate of” funds managed by Pacific Investment Management Co. LLC, which “did really well in the first quarter,” with one fund — PIMCO California Municipal Income Fund II — up 16.6% in the first quarter.

Also, Herzfeld’s fixed-income composite bond fund was the top strategy for the five years ended March 31, with an annualized gross return of 8.74%.

W.E. Donoghue & Co. LLC’s Power Treasury index portfolio fund was the second best performing strategy, returning 8.58% gross of fees for the year ended March 31.

Jeffrey R. Thompson, CEO of W.E. Donoghue and portfolio manager of the fund, explained in a phone interview that the actively managed vehicle uses “technical and quant analysis” to switch between short- to intermediate-term Treasuries to longer-term Treasuries.

In October, the portfolio’s position switched to a longer-duration exposure in the Treasury market. When the fund shifted back to short- to intermediate-term in January, Mr. Thompson said that move proved “fortunate and timely and offered (the fund) that upside.”

“Right now, we’re more in the intermediate-term zone. But if credit conditions deteriorate quickly like they did in the fourth quarter, that could change our bias and we could shift gears again,” Mr. Thompson added.

Diamond Hill Capital Management Inc.’s high-yield bond fund was third on the list, returning a gross 7.83%.

The fourth quarter of 2018 was the worst quarter for high yield, explained John McClain, portfolio manager of Diamond Hill’s high-yield bond fund. This poor performance was driven by the Fed, discussion about trade wars and unattractive valuation.

So, during the first three quarters of 2018, the company increased its BB exposure “by a significant amount.”

Then the first quarter “was a very strong bull market,” Mr. McClain said, adding that the company has “a small midcap bias” in its portfolios.

“We are a completely bottom-up fundamental firm. We’re not concerned with sector exposure,” the Diamond Hill portfolio manager added. “We typically think the largest companies in the fixed-income field are consistently overvalued.”

Camden Asset Management LP’s Long Duration (Government/Credit) composite was fourth on the list, returning 7.26% for the year ended March 31. Camden’s Long Duration (U.S. Corporate) composite came in as the fifth best-performing strategy, returning 7.22%.

5-year leaders

Of the best performing fixed-income strategies for the five years ended March 31, Herzfeld’s Fixed Income composite topped the list, with a gross return of 8.74%; followed by

NISA Investment Advisors LLC’s 15+ STRIPS Fixed Income composite, at 7.73%;
Artisan Partners (APAM) Asset Management Inc.’s High Income, 7.11%; Schroder’s Opportunistic Multi-Sector, 6.92%; and PIMCO’s Long Term Bond – Long Credit, also 6.92%.

In terms of domestic collective investment trusts, Fidelity Institutional Asset Management’s Long U.S. Treasury STRIPS Pool Index fund topped that list with a net return of 7.46%. PGIM Inc.’s High Yield Fund was second at 7.21%, followed by T. Rowe Price Group Inc.’s U.S. Treasury Long-Term Index fund and its U.S. Treasury Long-Term bond fund, returning 6.75% and 6.64%, respectively. Capping off the top five CITs was Fidelity Institutional Asset Management, with its Target Date Long-Term Treasury Index Commingled Pool returning a net 6.61% for the year ended March 31.

DDJ Capital Management LLC’s Total Return Credit strategy was No. 1 on the list of CITs for the five years ended March 31, returning an annualized net 6.87%.

PGIM had two of the top five CITs for the five years ended March 31, with its U.S. Long Duration Corporate Bond fund in second place with a net return of 5.99%, followed by the firm’s U.S. Long Duration High Quality Corporate Bond fund in third place with a 5.9% return for the period.

BlackRock (BLK) Inc. (BLK)’s Treasury Bond fund came in at No. 4, with a net annualized return of 5.86%.

Wellington Management Co. LLP’s CIF II Investment Grade Corporate Bond completed the top five with a net 5.73% return for the five-year period.

The median return for domestic fixed-income CITs in Morningstar’s universe was 4.56% for the year and 3.91% for the five years ended March 31.

All data for Pensions & Investments‘ top-performing managers report are provided from Morningstar’s global separate account/collective investment trust database. The data for the rankings on which this story is based were pulled May 7.

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