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A Glimpse Behind the Curtain at Western Asset Management

WAMCO remains a compelling fixed-income shop, but some moving pieces warrant a watchful eye.

Michelle Canavan, 10/15/2013

Western Asset Management has long been known as a leader among institutional fixed-income investors, but the firm is still relatively unfamiliar to retail investors. A subsidiary of Legg Mason Capital Management LM, the firm's fixed-income assets peaked at $521 billion in 2006 thanks to an impressive long-term track record. But investor confidence in the Pasadena-based fixed-income shop was shaken in 2007 and 2008 when the firm's flagship core and core plus bond portfolios were tripped up by large stakes in nonagency mortgage-backed securities, corporate-bond missteps, and the assumption of too much risk overall. Underperformance across the firm's lineup during the financial crisis revealed some flaws, including weaknesses in credit research, ineffective risk oversight, and gaps in communication between macro and fundamental research.

The firm was besieged by outflows in the aftermath, and its fixed-income asset base hasn't fully recovered: it stood at roughly $434 billion as of June 30. The company has made substantial strides to address its problems in the roughly five years since the firm's disappointing run in 2008. The firm made several key hires, for example, including Ivor Schucking, who was co-head of credit research at PIMCO and has extensive experience with financials. And while the credit-analyst ranks have gone through a shakeup--around half the team joined WAMCO since 2009--its credit research arguably remains a draw here. They've focused on adding highly experienced analysts in the past few years, and the firm currently boasts 12 high-yield analysts with 18 years of experience, on average (ranging from 14 to 26 years), and another 15 investment-grade analysts who are similarly seasoned.

The firm also hired Ken Winston in October 2008 as its head of risk management, who has since built a team of roughly 30 professionals dedicated to the task. That team's latest endeavor is building a proprietary risk system that will aggregate all relevant data on a single platform to enable a more comprehensive estimate of risk. The firm also formed a separate risk-analysis and oversight team, headed by Rajiv Sachdeva, whose mandate is to stress-test investment ideas before they're implemented. WAMCO's team of generalist portfolio managers have also focused on better integrating the firm's fundamental and macro research and have worked to ensure that communication between the traders, portfolio managers, and research analysts is fluid.

In aggregate, these changes and investments in resources appear to have put the firm on stronger ground. Fortunately for investors that stuck around, performance across a number of funds that lagged badly during the crisis, including flagship Western Asset Core Plus Bond WACPX, have also rebounded strongly and reclaimed impressive long-term track records. Of late, we've rated six open-end funds managed by WAMCO, five of which have received a Morningstar Analyst Rating of either Bronze or Silver, demonstrating our overall conviction in their investment professionals and process. 

High-Level Changes in the Structured Products Group Raise Some Concern
We believe there's reason for continued optimism in the firm's overall prospects, but some recent personnel changes warrant a watchful eye. For starters, there has been tumult in the firm's structured-products group. As noted, WAMCO had problems in the nonagency mortgage-backed space during the financial crisis, and the firm brought in additional resources to assist Ron Mass, a 21-year firm veteran, who was serving as head of structured products. In particular, Paul Jablansky was hired in 2011 from Royal Bank of Scotland to serve as co-head of the group, because the firm believed his macro-related experience would be a good complement to Mass' relative-value expertise. After roughly 18 months of working with Jablansky, Mass departed the firm in mid-2012. Because the underlying team responsible for research and trading remained in place, the firm didn't feel a need to replace him.

The calm didn't last long: Jablansky abruptly resigned from the firm in June 2013. WAMCO's external search led the firm to hire Anup Agarwal in July 2013, who joined with 16 years of experience. He previously served as a portfolio manager and head of consumer credit for Stark Investments, an alternative investment firm. There he was responsible for managing a full range of securitized assets, including agency and nonagency residential mortgages, as well as commercial mortgage-backed and asset-backed securities. He also spent four years as the head of credit & research in Invesco's fixed-income group prior to that.

As if that weren't enough, the firm's head of the sector team responsible for agency mortgage-backed securities, Steven Fulton, announced his plans to retire effective Sept. 30, 2013. Fulton held that post for the past four years and spent a total of 14 years at the firm. WAMCO is not replacing him; the team's underlying analysts will report directly to Agarwal.

Michelle Canavan is an analyst with Morningstar.

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