Michael Freno, Head of Global Markets, shares his view on where value can still be found in fixed income, despite the uncertain current environment—and why investors may need to look beyond traditional indexes in high yield, investment grade and emerging markets debt.
In such an uncertain environment, how should investors be thinking about their fixed income allocation?
Whether you’re looking at high yield, investment grade credit or emerging markets debt, we think there are benefits to staying invested through market cycles. In any asset class, it is very difficult to make top-down calls and effectively time the market. As an example, one year ago, some commentators were predicting that the 10-year U.S. Treasury was going to end 2018 at 4%, but here we are hovering close to 2%. For this reason, we avoid making sweeping rate and credit calls when we make investment decisions. Rather, our approach is to focus on analyzing what we feel we can confidently get our arms around, and that is pricing fundamental credit risk.
We also see several benefits to taking an opportunistic or multi-credit approach to these asset classes. Unlike more traditional fixed income strategies, most multi-credit strategies are benchmark agnostic, giving a portfolio manager the flexibility to pursue the most attractive relative value opportunities across asset classes, sectors and geographies. The result is a more diversified approach to credit that can potentially deliver more attractive risk-adjusted returns relative to a single-sector strategy.
How have you implemented some of this thinking across the fixed income landscape, starting with high yield?
Back in 2011–2012, we spent a lot of time talking to investors around the world about how they were approaching high yield. One of the things we noticed was that many of them were thinking about high yield assets—whether loans or bonds in the U.S. or Europe—in a very siloed fashion, rather than looking at them in the aggregate. And we felt that investors were interested in moving toward a more global, holistic approach.
In response, we constructed portfolios that blend the various high yield sub asset classes together in what we think of as a global, high yield multi-credit strategy. At Barings, this means allocations to the “core four” high yield sub asset classes—U.S. high yield bonds, U.S. loans, European high yield bonds and European loans—with the ability to make opportunistic allocations to collateralized loan obligations (CLOs), stressed and distressed credits (special situations) and emerging markets corporate debt.
High yield asset classes do tend to track one another, and move in the same direction over long periods of time, but there are regional differences and technical differences in each market that can cause prices to become decoupled from fundamentals. We think the managers who are living and breathing this every day are well-positioned to recognize and capture those technical inefficiencies—which underscores the value of active management.