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On the Go for Fixed Income

Dan Fuss and Michael Hasenstab have independent streaks that lead them to unconventional and profitable opportunities.

Miriam Sjoblom, 06/12/2012

This article originally appeared in the June/July 2012 issue of MorningstarAdvisor magazine. To subscribe, please call 1-800-384-4000.

Let’s face it. Last year was a triumph for traditional U.S. bond investing. Helped by a jolt of fear and a Federal Reserve shimmying to Chubby Checker, the passively managed Vanguard Total Bond Market Index VBTLX gained 7.7% in 2011, leaving many active bond managers in the dust. That rally did little to calm concerns about rising yields and the dearth of value in U.S. Treasuries, though. Many core bond managers have resorted to looking eyond their own backyard—to non-U.S. sovereign debt and currencies, junk bonds, and further down in companies’ capital structures—for relief from the lean opportunities offered by their increasingly U.S.-government-heavy investment-grade home base.

That contingent looks like a herd of Johnnycome- latelies next to Dan Fuss, though. For more than 20 years, his Loomis Sayles Bond LSBRX has charted its own profitable path in and out of distressed corporate debt, busted and balanced convertibles, real estate investment trusts and other types of preferred and common stock, emerging-markets debt, and nondollar bonds. A dauntless contrarian, Fuss has yet to weather a crisis that he couldn’t use to his advantage, even if it means picking up a few battle scars along the way.

Also known for investing with a staunchly independent mind, Templeton Global Bond’s TPINX Michael Hasenstab doesn’t need to throw out his playbook either. Hasenstab has a remarkable talent for spotting long-term trends in advance and then getting in on the ground floor. That was the case when he moved into Asian government bonds and currencies eight years ago, for example, and it could be the case again. In recent years, he has substantially reduced the fund’s interest-rate risk by shifting into short-maturity bonds across markets and taking currency positions, such as shorting the yen, designed to do well when Treasury yields march higher.

Both Fuss and Hasenstab will be speaking at the 2012 Morningstar Investment Conference, June 20–22, in Chicago. To get a sense of their thinking heading into the conference, we invited them to discuss the challenges facing bond investors in today’s low-yield environment, where to find opportunities (hint: go global), and how to successfully navigate a prolonged period of rising yields. Our conversation took place on April 26 and has been edited for clarity and length.

Miriam Sjoblom: You both have expressed concern about the risk of rising bond yields, and it shows up in your portfolios. Yet yields have stayed stubbornly low for some time and last year surprised many investors when they sunk even lower. How imminent is the threat of rising rates, and how do you see this scenario unfolding?

Dan Fuss: My guess, which I’ve been guessing for a long time, is that eventually our own central bank starts to back away from buying Treasuries. The offshore central banks really can’t. Their setting is a little different, but our own central bank has been buying notes, especially seven years on out, and bonds—the long end. So you take away that support, and you’ve taken away a support that has counted for maybe two thirds of the purchases—their friends offshore account for the rest. So then, that supply doesn’t hit our market or go out into the general markets.

The question then becomes, when does our central bank back away? Now, from what I read, the center of gravity on the boat for the Fed seems to be two years from now. The next question then is, is there a point in between where the currency relative to all others starts to slide? Not so much relative to the Canadian dollar and New Zealand dollar, but relative to the yen, where it’s slid a bit, relative to the euro—that’s the other option, and then, say, sterling and Swiss franc. I’m really more on the global side on that one. But that’s going to take some time.

Miriam Sjoblom is an associate director of fund analysis at Morningstar.
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