April 2017 PIMCO TRENDS Managed Futures Strategy Fund: Seeking a Smoother Ride in an Uncertain World Trend-following, the primary approach used in managed futures strategies, has generally delivered strong returns over multiple decades. 1 Today, the heightened possibility of increased volatility coupled with the prospect of lower returns going forward, suggests that the time may be right to consider the potential benefits of trend-following strategies. Portfolio manager Matt Dorsten and product manager Michael Connor discuss the mechanics of trend-following strategies, and how PIMCO TRENDS Managed Futures Strategy Fund (TRENDS), which recently hit its three-year mark, is differentiated in the marketplace. Q: What are managed futures and how do they work? Michael Connor: Managed futures funds also known as trend-following or momentum strategies have been around since the 1980s. Historically, investors have been drawn to these strategies mainly for their diversification benefits and their potential for equity-like returns. Because of their low-to-negative correlation with many risk assets, they may help to lower overall portfolio volatility and contain drawdowns. Ideally, they should demonstrate their best performance during equity sell-offs, when investors need returns the most. In choppier markets without clear trends, performance may be down or muted. 1 Measured by Eurekahedge CTA/Managed Futures Hedge Fund Index
2 April 2017 Q&A AUTHORS Figure 1: THREE RECENT STOCK SELL-OFFS Have Managed Futures Strategies Performed as Expected? 115% 110 Equity Index 1. China Devaluation Managed Futures Index PIMCO TRENDS Managed Futures Fund (PQTIX) 2. Negative Rate Scare 3. Brexit Matt Dorsten Portfolio manager Total Return 105 100 95 90 Michael Connor Product manager 85 Jul Aug Sep Oct Nov Dec Equity Index represented by S&P 500 Index, Managed Futures Index represented by NEIXCTAM Index. Jan Feb Mar Apr May Jun Jul Aug Sep 1-year 3-year Since inception TRENDS Managed Futures Strategy Fund (at NAV) -4.78% 3.15% 3.42% 3 Month USD LIBOR Index 0.78 0.46 0.45 Source: PIMCO for the Institutional Share Class. Bottom table as of 31 March 2017. Top chart as of 30 September 2016. If this material is used after 30 June 2017, it must be accompanied by the most recent Performance Supplement. For performance to the most recent quarter-end, please visit PIMCO TRENDS Managed Futures Strategy Fund. Performance quoted represents past performance. Past performance is not a guarantee or a reliable indicator of future results. Investment return and the principal value of an investment will fluctuate. Shares may be worth more or less than original cost when redeemed. Current performance may be lower or higher than performance shown. For performance current to the most recent month-end, visit www.pimco.com or call (888) 87-PIMCO. Total expense ratio 1.46%. Net expense ratio 1.15%. 2 Q: Why have investors been allocating to managed futures strategies? Connor: With low annual returns expected for mainstream stocks and bonds over the next decade, and asset prices in both the equity and bond markets near all-time highs, investors are looking to alternative strategies for return and diversification potential. As such, investors have been allocating to managed futures strategies, which offer the potential for both. Q: How have managed future strategies performed during recent market shocks? Connor: The last two years have offered a good test case for trend-following strategies as equity markets experienced a number of notable sell-offs. A natural question for investors to ask is: During these sell-offs, did trend-following funds do what they re supposed to do? For true managed futures strategies, we believe the answer is yes. 2 The net expense ratio reflects two contractual expense reduction agreements of 0.25% through 31 July 2017 and 0.06%, an amount equal to the management fee and administrative services fee, respectively, paid by the PIMCO Cayman Commodity Fund VIII, Ltd. (the Subsidiary) to PIMCO. This waiver may not be terminated so long as PIMCO s contract with the subsidiary is in place.
April 2017 Q&A 3 A closer look at these three drawdowns the China devaluation scare in August of 2015, the negative rate scare in early 2016, and Brexit in mid-2016 helps provide insight into the potential benefits, and limitations, of trend-following strategies. Trend following strategies may not always outperform the broader market as displayed in Figure 1, but the chart above examines how managed futures strategies fared during these market sell-offs, noting some key distinctions in the three different episodes. 1. China Devaluation: This downdraft occurred very quickly and somewhat unexpectedly over the course of four days. Trend-following strategies that were particularly fast-moving, like PIMCO s strategy, were able to identify the trend and then take appropriate positions. However, note that the diversification effect here (trend-followers rally as the equity market sells off) is somewhat muted due to the speed of the move. 2. Negative Rate Scare: The January- February 2016 selloff took several weeks and the rebound in risk market assets was slower which allowed trend-following strategies to provide a much stronger diversifying effect with particularly strong performance from strategies, like TRENDS, which are designed to react more quickly. 3. Brexit: The sell-off in June 2016, like the China devaluation scare, also occurred very quickly, taking place over two days. However, the performance of trend followers was stronger this time, because, given previous market moves, trend-followers generally were well positioned for the event. PIMCO TRENDS, for example, was up over 4.15% on the day following the Brexit vote. Q: How do you expect managed futures to perform in different market environments going forward? Matt Dorsten: Managed futures strategies are all designed differently so there is considerable disparity among these funds. Trend horizons, portfolio construction and risk management criteria are three main factors that determine the nature of a managed futures fund. At PIMCO, we focus on shorter-term trend windows because we believe this makes our strategy more responsive in an equity market selloff, and also that it positions us to trade ahead of other managers who track longer time horizons. This seeks to increase the likelihood that investors will benefit during surprise market shocks but does expose the fund to risk in choppier markets. Investors should educate themselves on specific strategies to understand how performance can vary in different environments. Q: What is PIMCO s managed futures investment philosophy? Dorsten: PIMCO TRENDS specializes in capitalizing on shorter-term trends and is characterized as a faster moving, adaptive strategy that limits long equity exposure. With 14 years of dedicated quantitative expertise, PIMCO integrates macroeconomic insight and bottom-up microeconomic (i.e. security-level) considerations to create a strategy that is designed to maximize diversification potential without sacrificing return. The fund possesses several distinct characteristics relative to competitors: IMPLEMENTING MANAGED FUTURES WITHIN A PORTFOLIO Managed futures strategies seek to generate attractive returns by capturing price trends across major asset classes. Incorporating managed futures strategies in portfolios has the potential to and can provide diversification to a traditional portfolio of stocks and bonds, especially during times of market stress. This strategy was once reserved for large institutional investors through private funds, but now we can provide access with the transparency and daily liquidity of a 40-act open-end fund that many investors desire. Depending on an investor s objectives and tolerance for risk, managed futures strategies can play a few different roles in a portfolio and are commonly implemented in the following ways: ROLES IN PORTFOLIO Improve potential risk-adjusted returns Improve diversification potential Improve potential portfolio performance during market downturns IMPLEMENTATION As impactful as managed futures strategies can be, their impact on the overall portfolio depends on the size of the allocation. Many investors incorporate managed futures into their overall alternatives allocation, which can often range from 10% to 30% depending on the investment objectives and the role of managed futures in the portfolio. Dedicated Alternatives Allocation Cash Alternatives Core bonds Core stocks
4 April 2017 Q&A Fast moving: By focusing on shorter moving-average windows, TRENDS seeks to enter newly formed market trends quickly and potentially exit completely once trends have reversed, often ahead of other slower-moving trend followers. Adaptive: Over the short term, TRENDS aims to scale up or down quickly in response to strong or weak market trends. This allows us to focus allocation to the strongest trend signals which may outperform. Limits long equity exposure: Short equity exposure in the fund can reach -100%, but TRENDS limits long equity exposure to +50% to emphasize diversification characteristics of the strategy. Q: What is PIMCO s managed futures investment process? Dorsten: PIMCO s approach to trendfollowing is to refine the standard models using both macro- and micro-level insights informed by PIMCO s investment process, such as: Active collateral management: In an era of low returns, maximizing the potential from investing collateral through PIMCO s active fixed income management may add a significant boost. Drag reduction: We use PIMCO s carry forecasts in an effort to avoid a significant portfolio drag from negative carry and roll-down. Scaling rules: We do not target a constant risk level, but rather scale up volatility as opportunities develop and scale down when market trends are few. Cross-market trends: Robust macroeconomic insights provide the ability to look both within and across markets to identify trend signals. Risk management bias: TRENDS is designed to maximize its risk management role by constraining exposures that may overlap with traditional portfolio risks. New strategy ideas are vetted by the Trends Research Advisory Group, which is comprised of senior portfolio managers across a variety of specialist desks. PIMCO s derivatives execution is conducted by specialist portfolio managers on our global derivatives execution platform. Futures rolls are determined and executed by the appropriate specialist desk. Collateral is managed by our specialist Short Term Portfolio Managers. And, an appropriate liquidity buffer is mandated and monitored by our Risk Management Desk. Through this robust process, our TRENDS strategy harnesses the scope of PIMCO s industryleading global resources, which we believe provides a competitive advantage.
Investors should consider the investment objectives, risks, charges and expenses of the funds carefully before investing. This and other information are contained in the fund s prospectus and summary prospectus, if available, which may be obtained by contacting your investment professional or PIMCO representative or by visiting www.pimco.com. Please read them carefully before you invest or send money. Past performance is not a guarantee or a reliable indicator of future results. The performance figures presented reflect the total return performance and reflect changes in share price and reinvestment of dividend and capital gain distributions. All periods longer than one year are annualized. The minimum initial investment for Institutional class shares is $1 million; however, it may be modified for certain financial intermediaries who submit trades on behalf of eligible investors. Investments made by a Fund and the results achieved by a Fund are not expected to be the same as those made by any other PIMCO-advised Fund, including those with a similar name, investment objective or policies. A new or smaller Fund s performance may not represent how the Fund is expected to or may perform in the long-term. New Funds have limited operating histories for investors to evaluate and new and smaller Funds may not attract sufficient assets to achieve investment and trading efficiencies. A Fund may be forced to sell a comparatively large portion of its portfolio to meet significant shareholder redemptions for cash, or hold a comparatively large portion of its portfolio in cash due to significant share purchases for cash, in each case when the Fund otherwise would not seek to do so, which may adversely affect performance. Differences in the Fund s performance versus the index and related attribution information with respect to particular categories of securities or individual positions may be attributable, in part, to differences in the pricing methodologies used by the Fund and the index. A word about risk: Investing in the bond market is subject to risks, including market, interest rate, issuer, credit, inflation risk, and liquidity risk. The value of most bonds and bond strategies are impacted by changes in interest rates. Bonds and bond strategies with longer durations tend to be more sensitive and volatile than those with shorter durations; bond prices generally fall as interest rates rise, and the current low interest rate environment increases this risk. Current reductions in bond counterparty capacity may contribute to decreased market liquidity and increased price volatility. Bond investments may be worth more or less than the original cost when redeemed. The fund will seek exposure to commodities through commodity-linked derivatives and through the PIMCO Cayman Commodity Fund VIII Ltd., a wholly-owned subsidiary of the Fund organized under the laws of the Cayman Islands (the Subsidiary ). The Subsidiary is advised by PIMCO, and has the same investment objective as the Fund. The Subsidiary (unlike the Fund) may invest without limitation in commodity-linked swap agreements and other commodity-linked derivative instruments. Commodities contain heightened risk including market, political, regulatory, and natural conditions, and may not be suitable for all investors. Derivatives and commodity-linked derivatives may involve certain costs and risks such as liquidity, interest rate, market, credit, management and the risk that a position could not be closed when most advantageous. Commodity-linked derivative instruments may involve additional costs and risks such as changes in commodity index volatility or factors affecting a particular industry or commodity, such as drought, floods, weather, livestock disease, embargoes, tariffs and international economic, political and regulatory developments. Investing in derivatives could lose more than the amount invested. High yield, lower-rated securities involve greater risk than higher-rated securities; portfolios that invest in them may be subject to greater levels of credit and liquidity risk than portfolios that do not. Mortgage and asset-backed securities may be sensitive to changes in interest rates, subject to early repayment risk, and their value may fluctuate in response to the market s perception of issuer creditworthiness; while generally supported by some form of government or private guarantee there is no assurance that private guarantors will meet their obligations. Investing in foreign denominated and/ or domiciled securities may involve heightened risk due to currency fluctuations, and economic and political risks, which may be enhanced in emerging markets. The strategy may utilize quantitative models as part of implementing its investment strategies. The models evaluate securities or securities markets based on certain assumptions concerning the interplay of market factors. Models used may not adequately take into account certain factors, may not perform as intended, and may result in a decline in the value of your investment, which could be substantial. The Fund is non-diversified, which means that it may concentrate its assets in a smaller number of issuers than a diversified fund. There is no guarantee that these investment strategies will work under all market conditions or are suitable for all investors and each investor should evaluate their ability to invest long-term, especially during periods of downturn in the market. Investors should consult their investment professional prior to making an investment decision. This material contains the opinions of the manager and such opinions are subject to change without notice. This material has been distributed for informational purposes only and should not be considered as investment advice or a recommendation of any particular security, strategy or investment product. Information contained herein has been obtained from sources believed to be reliable, but not guaranteed. No part of this material may be reproduced in any form, or referred to in any other publication, without express written permission. PIMCO is a trademark of Allianz Asset Management of America L.P. in the United States and throughout the world. 2017, PIMCO. PIMCO Investments LLC, distributor, 1633 Broadway, New York, NY, 10019 is a company of PIMCO. Newport Beach Headquarters 650 Newport Center Drive Newport Beach, CA 92660 +1 949.720.6000 Hong Kong London Milan Munich New York Rio de Janeiro Singapore Sydney Tokyo Toronto Zurich pimco.com blog.pimco.com PTQA01_ 50655 CMR2017-0331-259729