Global Fixed Income Opportunities Amidst Emerging Divergence Benefits Canada Defined Benefit Summit December 2014 Jim Cole Phillips Hager & North Investment Management
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 $ (millions) DB Costs Skyrocket Secular Forces Remain Entrenched Increases Pressure to Use Capital Efficiently! 340 320 300 280 260 240 220 200 180 160 140 120 100 Market Value of Liabilities Secular Forces Low Interest rates Mature liability profiles Increasing longevity Funding pressures 80 Market Value of Liabilities 2
% Higher Interest Rates? Increases Likely Limited and Slow to Emerge 14 Historical U.S. 10-year Treasury Yields 12 10 8 6 4 Range: 3% - 5% Range: 2% - 5% 50 Years 45 Years 2 0 1870 1882 1894 1906 1918 1930 1942 1954 1966 1978 1990 2002 2014 Source: RBC GAM, RBC CM 3
(Meanwhile) The Hunt for Yield Continues. CartoonStock Cartoonist: Harley Schwadron 4
Mar-13 Apr-13 May-13 Jun-13 Jul-13 Aug-13 Sep-13 Oct-13 Nov-13 Dec-13 Jan-14 Feb-14 Mar-14 Apr-14 May-14 Jun-14 Jul-14 Aug-14 Sep-14 Oct-14 Yield to Worst (%) Balancing Risk and Opportunity Market Volatility Is Increasing 7.0 6.5 BoA/Merrill Lynch US High Yield Index Rising Volatility Monetary policy 6.0 5.5 >150 bps Sell Off Supply / demand Dealer liquidity 5.0 4.5 Event Risk Source: Bloomberg, BoA/Merrill Lynch 11/20/2014 5
Dec-12 Mar-13 Jun-13 Sep-13 Dec-13 Mar-14 Jun-14 Sep-14 Dec-14 Dec-12 Mar-13 Jun-13 Sep-13 Dec-13 Mar-14 Jun-14 Sep-14 Dec-14 Stock Price Price ($) ($) Bond Price ($) Event Risk Quintessentially Canadian M&A Portfolio Implications 100 Tim Hortons Common Share Price 110 Tim Hortons 4.2% 2017 Corporate Bond 109 90 108 80 107 106 70 105 104 60 103 50 102 101 40 Source:Charts\Other\20141031 THI Equity 100 Source: anna\excel files \event risk 9/30/14 Source: FTSE TMX Global Debt Capital Markets Inc., BondLab, Bloomberg 6
Times are a Changin Decoupling Central Banks Create Opportunity BoE Fed BoC ECB BoJ 7
Increasing Performance Disparity Global Bond Yields 10 Year Government Bond Yields Source: other\global yields - weekly (germany ) 10/31/14 Source: FTSE TMX Global Debt Capital Markets Inc., Bloomberg 8
Increasing Performance Disparity Geographies India Brazil Election Election Source: Bloomberg, JP Morgan. Indian bond market represented by JP Morgan GBI-EM India Unhedged USD Index. Brazilian bond market represented by JP Morgan GBI-EM Brazil Unhedged USD Index 9
Too Big To Ignore? Comparative Index Sizes Index/Market Size DEX Universe Bond Index $1.3 Trillion Global High Yield 1 $2.1 Trillion Emerging Market Debt 2 $2.3 Trillion U.S. Corporate Bonds 3 $5.1 Trillion S&P/TSX Composite Index $2.1 Trillion 1 BoA/Merrill Lynch Global High Yield Constrained Index (HW0C) 2 JP Morgan Emerging Markets Bond Index Global Diversified (EMBI, hard currency sovereign) + JP Morgan Corporate Emerging Markets Bond Index Broad Diversified (CEMBI, hard currency) + JP Morgan Government Bond Index-Emerging Markets Broad Diversified (GBI-EM, local currency sovereign) 3 BoA/Merrill Lynch U.S. Corporate Master Index (C0A0) As at September 30, 2014 10
Portfolio Construction Framework Asset Allocation Decisions Investment Committee vs. Manager Lower Degree of Manager Flexibility Higher Asset Allocation Mandate Extension Domestic Core Mortgages High Yield Private Placements Global / Currency Domestic Core Mortgages High Yield Private Placements Global / Currency Trustees Responsibility for Asset Allocation Managers 11
Ask Your Managers for Help! But Also Understand Investment and Risk Management Process Mandate Review: Credit quality investment grade vs. high yield Maximum Position Sizes BBB market is evolving Private Placements increasingly accessible asset class Domestic vs. Global large and evolving markets! Currency Exposures sometimes they are risk reducing! 12
Back to Efficient Capital Allocation Investment Policy Cycle 1. Plan Design 7. Monitoring & Review 2. Governance Structure 3. Investment Beliefs 5. Investment Manager Structure 4. Asset Mix Policy Efficient Capital Allocation in a Changing Market Environment 13
Conclusion Last 6 years rhymed Seeing diverging policies and asset class differentiation Opportunities for active management Give thought to portfolio construction and mandate definition Thank you! Questions? 14