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Home>Research & Insights>Fund Times>A Measured Approach to Bank Loans and High Yield

A Measured Approach to Bank Loans and High Yield

Bronze-rated Eaton Vance Floating-Rate and High Income has an impressive management team and long-term record, but high fees temper our enthusiasm.

Morningstar, 06/27/2017

The following is our latest Fund Analyst Report for Eaton Vance Floating-Rate & High Income Fund EIFHX

Although its fees are meaningfully higher than similar peers', the fund’s strong management, consistent and effective process, and strong long-term performance versus peers lead to Eaton Vance Floating-Rate and High Income's Morningstar Analyst Rating of Bronze.

This fund’s team features some of the most tenured and respected managers in the bank-loan and high-yield Morningstar Categories, and it has provided this fund with continuity of personnel and approach. Longtime managers Scott Page and Craig Russ run the  Eaton Vance Floating Rate EVBLX sleeve of this fund and serve as co-heads of Eaton Vance's broad bank-loan team. Page has been with the firm since 1990, and Russ joined in 1997. Michael Weilheimer is a comanager and runs the fund’s up to 20% allocation to Eaton Vance High Income Opportunities I EIHIX. He joined Eaton Vance in 1990 and serves as the firm’s director of high-yield investments. Page and Weilheimer have managed this portfolio since its September 2000 inception.

Each team takes a measured approach to its specific market. And while the bank-loan team typically avoids holding many CCC rated loans because of concerns over their higher default rates, the high-yield team is willing to hold an allocation that is closer to market weight. This leads to a combined portfolio with a CCC weighting close to that of its S&P/LSTA Leveraged Loan Index benchmark. This weighting, along with strong credit selection from both teams, have helped the fund outperform its bank-loan peers over the long term. The fund has also managed to avoid abnormal volatility despite a roughly 20% exposure to more-volatile high-yield bonds. For example, the fund didn’t fall too far behind its typical bank-loan peer during recent credit downturns like the third quarter of 2011 and the mid-2015 through early 2016 high-yield sell-off. Over time, the team's focus on fundamentals has paid off. During the 10-year period ended May 31, 2017, the fund ranked in the best quintile of the category, returning an annualized 4.2%.

While this fund is a strong in several respects, its price tag is a noteworthy detractor.

Process Pillar: Positive | Kenneth Oshodi 06/22/2017
A careful approach to credit selection, close attention to liquidity management, and a continued focus on understanding the various levers of risk in the portfolio all support this fund’s Positive Process rating.

This fund combines Bronze-rated Eaton Vance Floating-Rate and Silver-rated Eaton Vance High Income Opportunities into a portfolio of bank loans and high-yield bonds. The two teams work together to assess relative value between the asset classes when setting the portfolio allocation, but the fund’s total allocation to high-yield bonds is limited to a maximum of 20%. Each team follows a measured approach to their respective markets that starts with an assessment of macroeconomic trends, spread and yield levels, and market liquidity before fundamental analysis is applied to individual security selection. The floating-rate team typically avoids CCC rated loans, arguing that over time, they haven’t paid enough to offset their higher default rates. However, the high-yield team is more willing to allocate to these lower-rated credits as valuations create attractive opportunities. There’s no leverage used in either portfolio.

Because of the nature of the bank-loan market, the floating-rate team pays close attention to liquidity management by modeling worst-case outflow scenarios. At times, they have had to tap a line of credit to meet daily liquidity obligations for their open-end funds.

While this fund’s credit quality breakdown is a byproduct of the group’s bottom-up approach, its portfolio weightings don’t vary much from those of its S&P/LSTA Leveraged Loan Index benchmark. The fund’s weightings of 37.6% in BB and 46.7% in B rated investments are each roughly 2.5 percentage points above what the index holds. And the fund’s 6.4% allocation to bonds rated CCC and below is slightly less than the benchmark’s 7.6% position as of March 31, 2017. A preference for a slightly higher-quality allocation versus the index is typical of the floating-rate team, because of its avoidance of CCC rated loans. However, this fund will normally hold a few percentage points more in that lower-quality space owing to its high-yield stake, where CCC bonds comprise a larger part of the landscape. Overall, this fund’s credit-quality profile hasn't changed much in recent years, and its credit allocations are very close to what they were at that time last year.

In terms of sectors, healthcare firms have long made up its largest sector exposure (9.6% as of March 31, 2017, representing a 1.3% overweighting versus its benchmark's weighting). This position was anchored by Valeant bank debt, the portfolio’s largest position at 1.3% at quarter’s end. The team favors these loans because of Valeant’s strong asset coverage from well-known brands like Bausch and Lomb.

Performance Pillar: Positive | Kenneth Oshodi 06/22/2017  
Strong long-terms returns versus bank-loan category peers help this fund earn a Positive Performance Pillar rating.

Over long stretches, this fund’s up to 20% high-yield exposure has helped boost its return stream versus its typical peer and its S&P/LSTA Leveraged Loan Index benchmark. Its high-yield stake has performed especially well during periods that reward risk-taking. Conversely, it has held the fund back during bouts of risk aversion, such as the eurozone crisis in 2011’s third quarter and, more recently, when lower-rated bonds and commodity-sensitive issuers struggled mightily from June 2015 through February 2016. The fund’s 5.4% loss during this latter period caused it to underperform 60% of its distinct peers. However, a sharp rally in these riskier assets from March through December 2016 led the fund to an 11.6% return for the year that landed in the category’s best decile.

Overall, this has led to an annualized 4.2% return that lands in the bank-loan category’s best quintile during the trailing 10-year period ended May 31, 2017. But the managers have not only counted on increased credit risk to aid performance. Both teams’ strong credit selection has helped bolster returns while keeping the fund’s volatility (as measured by standard deviation) in line with its typical peer’s during this period.

People Pillar: Positive | Kenneth Oshodi 06/22/2017 
This fund unites one of the most tenured teams in the bank-loan category with one of the longest-tenured managers in the high-yield category. The stability and experience of this group leads to a Positive People Pillar rating.

This team is a combination of Eaton Vance’s well-respected bank-loan and high-yield groups. The joint management team consists of Scott Page, Craig Russ, Michael Weilheimer, Kelly Baccei, and Stephen Concannon. Scott Page has 35 years of investment experience, including 27 years at Eaton Vance. He started at the company as a bank-loan analyst and was named the portfolio manager of Eaton Vance Floating-Rate Advantage EAFAX, the category's oldest entrant, in 1996. Craig Russ was named a co-portfolio manager on this fund in 2007. He has 31 years of experience, 20 of which have been with Eaton Vance. In addition to their duties on this fund, Page and Russ have been co-heads of Eaton Vance's bank-loan team since 2015.

Mike Weilheimer has managed the firm’s flagship high-yield fund Eaton Vance Income Fund of Boston EIBIX since 1996. He joined the firm in 1990 and serves as its director of high-yield investments. Kelley Baccei and Stephen Concannon also join this fund from the high-yield team. Each became a comanager on this fund in 2014.

The combined group is supported by a team of 27 analysts, five traders, and 14 portfolio managers.

Parent Pillar: Neutral | Kenneth Oshodi 05/09/2017  
Eaton Vance has expanded beyond tax-managed strategies and closed-end funds, though those are still meaningful pieces of its identity. It manages roughly $364 billion in assets across equities, fixed income, and quantitative strategies. The quant funds are run by subsidiary Parametric, which Eaton Vance acquired in 2003 and which now manages half of the firm's assets.

More-recent initiatives include the 2016 acquisition of Calvert Investments, a leader in socially responsible investment that has struggled to grow assets even as environmental, social, and governance investing gathers steam, and the 2011 formation of NextShares, a wholly owned subsidiary that offers actively managed exchange-traded funds internally or through licensing agreements with outside asset managers.

Performance has been middle of the road, with some pockets of strength. The firm's fixed-income funds are solid, but flows to its bank-loan business have been volatile. The equities business has seen significant outflows for several years, especially from struggling flagship Large-Cap Value, which lost three managers in 2014. (Several other managers left the firm in 2015.) New lead manager and equity CIO Ed Perkin, who joined the firm in 2014, has put his stamp on the fund and the equity group, reorganizing it into smaller teams from a centralized layout.

The firm doesn't stand out on stewardship attributes, so it earns a Neutral Parent rating.

Price Pillar: Negative | Kenneth Oshodi 06/22/2017     
Expenses for all share classes of this fund have Morningstar Fee Levels of Above Average or High when compared with similarly distributed bank-loan category peers. This fund earns a Negative Price Pillar rating.

Seventy percent of this fund's assets are held in its Institutional share class, and its 0.82% expense ratio is notably higher than its median peer's 0.75% fee. The fund's A share class is the second largest with 11% of assets, and its 1.07% expense ratio earns an Above Average fee level relative to its front-load peers. Similarly, the fund’s Advisor share class, which holds 10% of assets, charges a 1.06% expense ratio. This ranks as High versus the category median 0.90% fee for advisor shares.

 

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