World Bond Category Rattled by Dollar's Strength

Alfonzo Bruno: The world bond category can be characterized by a key distinction among the funds that comprise it: those that are mostly U.S. dollar hedged and those that are unhedged. As a result, performance can vary widely across different economic environments, and given the U.S. dollar's strength this year it's a great time to review the world bond category.

The global economy started the year on a synchronous path, yet it has begun to change direction given increasing trade tensions and diverging economic data across the globe. For the first half of 2018, the median world bond fund has declined 1.4%. A myriad of factors has resulted in the third-worst start to a calendar year over the last 20 years for the world bond category.

Because of a broad-based U.S. dollar rally, hedged portfolios have outperformed their unhedged counterparts. Of the 15 funds that have positive performance year to date, 11 are funds that hedge their currency exposure.

For example, Silver-rated PIMCO Foreign Bond is nearly fully hedged back to the U.S. dollar, despite pockets of opportunistic currency allocation, which has assisted in its 2% return year to date, beating nearly all the competition. Conversely, Silver-rated BrandywineGLOBAL Global Opportunistic fund has lost 3% so far this year, a healthy allocation to emerging-markets bonds and currencies has left it vulnerable against a backdrop of U.S. dollar strength.

As we look to the second half of 2018, this dynamic will play a crucial role in how the category responds to a rather bleak start to the year.