Building a Resilient Fixed Income Portfolio for all Stages of the Economic Cycle

Transcription

1 Building a Resilient Fixed Income Portfolio for all Stages of the Economic Cycle Matthew J. Eagan, CFA, Vice President and Portfolio Manager, Fixed Income, Loomis, Sayles & Company Kevin P. Kearns, Vice President, Portfolio Manager & Senior Derivatives Strategist, Absolute Return and Credit, Loomis, Sayles & Company

2 Survey Question 1 What is the role of unconstrained fixed income in a portfolio? 1. To outperform in a rising rate environment 2. To protect capital in a downturn 3. To provide attractive, uncorrelated return 2

3 Why Unconstrained? Today s environment poses unique challenges Rates are at all-time lows Volatility appears complacent Geopolitical events are having a larger impact May act as complement to and/or replacement for traditional fixed income TRADITIONAL FIXED INCOME MULTISECTOR NONTRADTIONAL ABSOLUTE RETURN OBJECTIVE Relative Return Total Return Absolute Return BENCHMARK AWARENESS Relatively Tight Tracking Error Wide Tracking Error Benchmark Agnostic RISK NEUTRAL POINT Benchmark Benchmark Cash CREDIT, CURVE, CURRENCY RISK Benchmark +/- Long Long/Short HEDGING Manage Risk versus Benchmark Manage Risk versus Benchmark Isolate Beta and Alpha Opportunities RISK MANAGEMENT FOCUS Tracking Error Absolute Volatility Absolute Volatility and Drawdown The above chart is hypothetical and is being shown for illustrative purposes only. It is not intended to represent any actual Loomis Sayles portfolio. 3

4 Return What is Unconstrained? A flexible mandate Seeks uncorrelated returns independent of a benchmark or economic cycle Portfolio design from a risk perspective Absolute Return Consistent return, drawdown averse Total Return Higher volatility if it is compensated by attractive return Volatility 4

5 Alpha Generation Three legs of the stool 1) Beta Selection 2) Idiosyncratic Selection with better information or a better process Fundamental research Quantitative analysis Technical analysis 3) Exploit Structural Inefficiencies Illiquidity Seasonality Basis or pair trades 5

6 Survey Question 2 What stage of the economic cycle are we currently in? 1. Downturn 2. Credit Repair 3. Recovery 4. Expansion / Late Cycle 6

7 Unconstrained Throughout the Cycle Stocks Bonds Cash FX Credit Under Weight Over Weight Repair balance sheets Pay down debt High default rate/low recovery values Debts restructure Margins expand Free cash flow is generated Default rates fall M&A activity rises Stocks Bonds Cash FX Credit Under Weight Over Weight Stocks Bonds Cash FX Credit Under Weight Over Weight Focus on survival Cut dividends Capitalconstrained environment Margins decline Free cash flow turns negative Leverage rises Stocks Bonds Cash FX Credit Under Weight Over Weight Product team view as of 12/31/2014. Green shading denotes asset classes the product team expects to appreciate and red shading denotes asset classes the product team expects to depreciate at each point in the economic cycle. This material is provided by Loomis Sayles for informational purposes only and should not be construed as investment advice. Investment decisions should consider the individual circumstances of the particular investor. This reflects the current opinions of the sector team and views are subject to change at any time without notice. Other industry analysts and investment personnel may have different views and assumptions. Charts are illustrative for presentation purposes only. 7

8 A Portfolio for All Stages of the Cycle Beta selection is essential Downturn Credit Repair 50% 50% 30% 30% 10% -10% -30% 25% June Sep 2002 Recovery High Yield IG Corporate Long US Treasury Oct Dec Expansion / Late Cycle 10% -10% -30% 15% Bank Loans 25% 15% 5% 5% -5% -5% -15% Source: Zephyr StyleAdvisor, Merrill Lynch and Barclays. Data as of 12/31/2014. Time periods related to the credit cycle shown are approximate and have been estimated by the investment team. Indexes are unmanaged and do not incur fees. It is not possible to invest directly in an index. High Yield, IG Corporate, and Long US Treasury are measured by their respective Barclays Index. Bank Loans are measured by the S&P Leveraged Loan Index. -15% 8

9 % of Market Alpha Selection Spread dispersion may be wide or narrow depending on the cycle phase 70% High Yield Cash Spread Dispersion 60% 50% 40% 30% Dec Credit Repair Dec Downturn Dec Recovery Dec Recovery -> Early Expansion Dec Expansion / Late Cycle 20% 10% 0% OAS (bps) Source: Barclays. Data as of 12/31/2014 9

10 Asset Classes Change Behavior Correlations may quickly shift from positive to negative 1.00 Rolling Correlation of Emerging Markets to Oil Dec-00 Dec-01 Dec-02 Dec-03 Dec-04 Dec-05 Dec-06 Dec-07 Dec-08 Dec-09 Dec-10 Dec-11 Dec-12 Dec-13 Dec-14 Source: Bloomberg. Data as of 12/31/2014. JP Morgan EMBI Global Index and Brent Crude Oil Price are represented. 10

11 Identifying the Cycle Qualitative and quantitative factors are evaluated Economic data Monetary policy Valuations (P/E) Inflation Yield curve Volatility Under Weight Over Weight Stocks Bonds Cash FX Credit The above chart is hypothetical and is being shown for illustrative purposes only. 11

12 Acting on the Cycle Valuation tools help identify asset classes with favorable asymmetric return/risk profiles High Yield (491.88) EMBI Global HY Targets CurrentInput Date Downside: Base: Upside: Attribution Score (Base/Down): Team Beta : US Small Cap High Yield 7.5 Japan Convertibles ABS US Large Cap Value 0.0 Bank Loans Europe IG Europe -7.5 US IG Corp Chart is illustrative for presentation purposes only as a sampling of risk management tool output. The information is not intended to represent any actual portfolio. 12

13 Testing Convictions Drawdown Analysis Haven t we seen this major risk factor before? Legend Downturn Credit Repair Recovery Taper Talk Expansion/Late Cycle Financial Crisis Long Term Capital Management Scenario analysis provides empirical evidence of asset class behavior and may help identify buying opportunities Chart is illustrative for presentation purposes only as a sampling of risk management tool output. The information is not intended to represent any actual portfolio. 13

14 Risk and Volatility Volatility management is essential Return generation must be balanced with volatility management Minimize or maximize volatility at selected points in the cycle Return Generation Volatility Management Guideline ranges are designed to limit risk exposures Derivatives for custom risk hedges Liquidity monitoring 14

15 Survey Question 3 What are your risk and return expectations for an unconstrained mandate? 1. Low volatility, consistent return 2. Moderate volatility, moderate return 3. Higher volatility, higher return 15

16 Return Risk when it is rewarded Absolute Return Consistent return, drawdown averse Total Return Higher volatility if it is compensated by attractive return Volatility 16

17 This material is provided for informational purposes only and should not be construed as investment advice. Investment decisions should consider the individual circumstances of the particular investor. Any opinions or forecasts contained herein reflect subjective judgments and assumptions of the author, and do not necessarily reflect the views of Loomis, Sayles & Company, L.P. or any portfolio manager. Investment recommendations may be inconsistent with these opinions. There can be no assurance that developments will transpire as forecasted and actual results will be different. Data and analysis does not represent the actual or expected future performance of any investment product. We believe the information, including that obtained from outside sources, to be correct, but we cannot guarantee its accuracy. Opinions reflect the views of the authors on the date made and are subject to change at any time without notice. 17