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Hitting Singles off the Yield Curve

Sarah Bush

Sarah Bush: Hello my name is Sarah Bush, and I'm a fund analyst with Morningstar. I'm joined today by Mary Ellen Stanek, who is CIO at Baird Investments. Thank you very much for joining us today.

Mary Ellen Stanek: Thank you.

Bush: [We've just completed the] first quarter, and I think there have been some surprises in the first quarter for bond investors. Could you talk a little bit about what we have seen so far in the markets.

Stanek: Once again everybody thought interest rates had to rise and the equity market was going to do well, but it looks like the bond market actually was a pretty good place to invest, with total returns of 1%-2% depending on the duration [a measure of interest-rate sensitivity] of your portfolio. And the equity market looks kind of flat with a fair amount of volatility, reminding us once again that trying to get the market timing down is so tough. There are so many other ways to add value versus trying to move duration around and outguess the short-term direction of interest rates.

Bush: Well that brings up an interesting point. As we were coming into this year everyone was saying, rates were obviously going to rise and there were lot of [fixed-income] portfolios that were [short-term]. Could you talk a little more about the approach that you take with the Baird bond funds, such as duration-neutral and what you are doing?

Stanek: We’ve always believed in the efficiency of the market itself, that for a given duration, or average maturity on your portfolio, you will be paid appropriate inflation adjusted returns over time. And when trying to outguess the short-term direction of rates most investors get that wrong, and consistently get that wrong. And then they compound that inconsistency, and it’s the loser's game. They're behind the eight ball and behind benchmarks. So we take duration-neutral approach. We believe in the efficiency of the market so we stayed market-neutral on the duration side along the spectrum of product offerings, including some of the short-bond products, and all the way out to our core and our core-plus offerings.

And then we spend our time and attention on the things that we do believe we add value on--yield-curve positioning, sector allocation, and individual security selection--and try to hit a lot of singles and compound--it’s baseball season--very high batting averages. By doing that we find over time we have very competitive results.

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Bush: Maybe you could talk a little bit about where you are finding opportunities in the bond market today.

Stanek: We are finding fair amount of opportunities still particularly in the corporate side of the marketplace, though [opportunities are] very well-diversified. Spreads have come in and narrowed that yield-curve differential between Treasuries and comparable duration of maturity corporate bonds. But we believe in well-diversified positions, and so when you look at our short-term bond fund for example, we are very aggressive in terms of how we have expressed that exposure.

Why? Because with short-term Treasuries there is almost no yield available. So we take that corporate-bond risk, but we don’t have a lot of time to maturity because the average duration there on the portfolios is equivalent to a two-year bond. So we can express a lot of that exposure to the corporate market there without taking a lot of time risk, and as we go out the spectrum of products, we're continuing to overweight corporates certainly because we think the economy is going to experience moderate growth, continued low inflation and decent corporate earnings which are pretty good support for bondholders in terms of getting paid back.

Bush: Are there any particular sectors within the corporate universe that you are looking at or finding particularly attractive.

Stanek: We've continued to like the financials. We think there are a lot of those companies we would not necessarily want to be a shareholder. You look at the announcement recently on Citi and their shareholder plan. So as the stock has traded off on that news, as bond-holders it's just inherently raises the probability that there is enough capital there to pay the bonds off. And so as a bondholder we continue to see good value there, though those spreads have continued to narrow, but there is still reasonable value for the risk in the sector.

Bush: Great well thank you very much, Mary Ellen, for joining us today.

Stanek: Thanks Sarah great to be here