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Head-On Approaches to Fixed Income

Jeremy Glaser
Sarah Bush

Jeremy Glaser: For Morningstar, I’m Jeremy Glaser. We are getting ready for the 25th anniversary of the Morningstar Investment Conference, and certainly fixed income will be one of the hot topics. I'm here with Sarah Bush, a senior mutual fund analyst, to look at what she thinks will be the key themes in the bond area.

Sarah, thanks for joining me.

Sarah Bush: Thanks very much. I'm happy to be here.

Glaser: We’re still in the midst of an incredible bull run for fixed-income investors over really the entire history of this conference, but now that yields are so incredibly low with the 10-year Treasury rate below 2%, are there any opportunities left? What kind of challenges do investors face right now?

Bush: That's a very interesting question. I actually went back and looked and was trying to guess how high the 10-year Treasury was when we started doing these conferences. If you look back 25 years, the 10-year Treasury was actually a little bit above 8%. So, that's a very different environment. I covered Dan Fuss at Loomis Sayles, and he says that in his early career, all you had to do was get long and stay long, and that was the secret to success. So, we are at a very different place.

So, we actually have our main general session panel on bonds. We have three very experienced fixed-income investors, who will be helping us think about that question, and certainly one of the approaches people have taken is to look beyond the traditional investment-grade U.S.-focused bond market.

So, we are going to be joined by Tad Rivelle at TCW. We will also be joined by Curtis Mewbourne at PIMCO, and Steve Smith at Brandywine Funds, and each one of those firms has taken a slightly different approach. So, one thing that we can certainly look at and we'll talk a lot about is what opportunities are there in the global fixed-income markets. So, we're looking at developed markets and developing markets, and obviously, with everything that's happened with the European credit crisis, we're thinking a little bit differently about risk in that arena. So, we'll certainly touch on that.

Another question that comes up for a lot of investors is what kind of a role should currency play in their bond portfolios. Is it too volatile? What should they be looking at? What kind of risk controls are in place? And this is something we certainly are seeing more bond managers make more use of, so that's something we'll certainly be thinking about.

And then a third area is obviously just looking at a broader opportunity set even within the U.S., and TCW has obviously been very active in the nonagency mortgage market. So, that's an area we can expect to hear some thoughts on.

And then finally, this will be an opportunity to ask these very experienced investors the big question. How long do they expect interest rates to stay low, and at what point should investors be thinking about repositioning their portfolios?

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Glaser: That's kind of on the interest-rate-risk side. What about credit risk? We've heard a lot of investor interest in things like bank loans, and other high-yield funds. What do you expect to hear about credit risk?

Bush: We certainly have seen that interest. I think we saw something like $24 billion in closed high yield last year, and bank loans are seeing something like $15 billion just through the first quarter of 2013. So, that’s really an area where there is a lot of interest. And I think what we have been hearing from managers, and we'll certainly talk about this at the conference, is that fundamentals remain strong and yields are still attractive relative to Treasuries. But you are in an environment with very low absolute yields. So, what kind of risks are out there, and how are managers thinking about that?

I will actually be working on a panel that's going to talk specifically about corporate bonds, both investment-grade and high-yield. So, we’ll have some representatives from Western Asset, Ryan Brist will be with us, and they are a very big player in the investment-grade arena; Gibson Smith from Janus, who manages high-yield and investment-grade portfolios, will also be with us. We will also have high-yield manager from BlackRock. So we will able to talk about that whole spectrum and how are they thinking about risk in their portfolios and where there are opportunities.

One place where a lot of investors were talking about opportunities coming out of 2011 was in the financials sector in corporate bonds, and we'll certainly be asking some questions about this. Is that opportunity still there, and if not, where are they finding good deals?

Glaser: You mentioned that even in high yield, the absolute levels of yield remain pretty low, which is sending investors looking for income elsewhere, be it dividend-paying stocks or in alternative-type products. Do you think those are reasonable alternatives to fixed income? How do you think about those other income-seeking investments?

Bush: I think that's one of the challenges, just to think about what kind of role bonds are playing in your portfolio. If you're looking for something that's providing diversification from the equity markets, you have to be careful about investments that are going to be fairly correlated with the equity markets. Again, we'll have some other panels at the conference to help investors think about other ways to think about income.

So, we have Morningstar's Josh Charlson, who is going to be looking at multiasset approaches to yield, and also we have Morningstar's Mike Taggart, who is going to be heading [a session on] getting income out of your closed-end portfolios, which is another approach.

I also would encourage people to look into [Morningstar director of personal finance] Christine Benz's work. I think, she has done some very interesting work on thinking about how to blend a total-return and an income approach when thinking about your portfolio and your income needs, and she will also be hosting a panel on retirement income.

Glaser: Sarah, I’m looking forward to those. Thanks for joining me.

Bush: Great. It was great to be here. Thank you.

Glaser: For Morningstar, I'm Jeremy Glaser.