Paul Justice: The highest-yielding asset classes tend not to be the best performing.
Hi there, I'm Paul Justice, director of ETF research at Morningstar. This is sage advice that I was given by Chris Goolgasian of State Street Global Advisors, the head of U.S. Portfolio Management.
Thanks for joining me, Chris.
Chris Goolgasian: Sure, Paul.
Justice: Now you recently launched an actively managed tactical fund focused on income allocation; INKM is the ticker. Can you talk about what the strategy does? How it approaches different asset classes to give people some return in this low-yielding environment?
Goolgasian: We think that INKM is a truly unique solution in that it is tactical, multi-asset class, but it's choosing from amongst income-producing asset classes, and so the goal here first and foremost has to be total return. Secondary, is that you will have, by nature of investing in income-producing asset classes, are pretty attractive yield.
Where investors make mistakes is they reverse those two, and they target a yield and they forget about the price, and too often that price is going to overwhelm the yield. We have a chart that shows yields at the beginning of the year and then returns at the end of the year, and more often than not, the highest yielders at the beginning of the year are not the best total returns by the end of the year.
If you look at last year, in fact, high yield on Jan. 1 had the highest yield amongst six or seven asset classes that we looked at, but by the end of the year, long government bonds were up 30%. So I'd rather have that 30% return than that 7% yield that high yield had at the beginning of the year. And that's the mistake investors make is that they chase that extra yield and they forget about all the other factors that impact total return.
So, what we are doing is moving between asset classes like dividend-paying equities, REITs, preferred stock, government, corporate bonds, and trying to add return by that manoeuvring between those asset classes. By proxy of the fact that those asset classes are income-producing, you will generally have a pretty attractive yield. Right now the yield is probably in the 4% area, give or take, and that will move up or down as we're tactically moving between those asset classes.
Justice: Now talk about some of the signals that you'll look for? Say, if I do see something that's yielding 7.5%, I'm thinking, well, I'm going to get that 7.5%. How do you move away from going just for those high-yield bonds? What is the process behind it? What are some of the quantitative signals, and what is your role as an active manager in that?
Goolgasian: It's a very structured process that is a blend of both quantitative models and fundamental views and experience from our portfolio management team.
So, our team globally is about 50 deep, and our models cover about 100 asset classes. So, on these asset classes in INKM, we have quantitative models that look at things like valuation, earnings growth, term spread, credit spread, momentum, money flow in and out of the asset class, on and on and on--they are multifactor models. We balance those with our own fundamental views, which generally are around the idea of, are the models recognizing everything that's in the current marketplace, and often they are not. There are a lot of moving parts in the market today. So the balance of those two is how we decide, are we going to over- or underweight high yield? Are we going to over or underweight European equities versus U.S. equities, both of which are high dividend yielding equities?
That process is generally a monthly process. We do it in, say, the first seven to eight business days, but we are not so foolish to think that the market cares about when our meeting is, and so we meet whenever we need to, and so as exogenous events happen, as the U.S. is in danger of getting its debt downgraded last year and events like that occur, we can meet whenever we need to, to change the portfolio.
Justice: So you can step in and override any signal [if] the model doesn't recognize the Fed is printing money left and right or Greece might get kicked out of the euro--you are there to interrupt it.
Goolgasian: Right. So what we've seen is that a balance of approaches is generally a much smoother ride. So if you are all quantitative, you will have those periods where the quant models break down, they tend to be at inflection points, and then you just have to ride that storm out. If you are all fundamental, obviously, there can be weaknesses in that approach, too. So we are trying to marry the best of both worlds, have that discipline of quant signals, understanding that they don't always work perfectly, and then having our fundamental views to try and augment that quant signal.
Justice: Certainly, it's something you've had success with in the institutional space, along with the variable annuity space.
Well, thanks for those insights. Thanks for joining me.