Portfolio Update: Unconstrained Fixed Income

Executive Summary

  • An unprecedented flight to quality in response to worldwide concerns over the coronavirus, compounded by the energy price war between Saudi Arabia and Russia have triggered some of the largest spread widening across non-government sectors since the financial crisis
  • Sector allocation that has favored securitized sectors has been the largest detractor from performance.  However, corporate and emerging market allocations that have been more muted also weighed on performance
  • Spreads across all markets are clearly pricing in a recession.  Amidst additional credit spread volatility, we believe idiosyncratic opportunities are arising across fixed income sectors

Portfolio Performance: Year-to-Date as of March 19, 2020

Uncertainty surrounding the Coronavirus has caused significant selling pressure across virtually all risk-related asset markets. Plummeting oil prices have exacerbated volatility, after talks between OPEC and non-OPEC members failed to reach an agreement on production cuts.

US Treasuries, as the world’s preferred risk-free asset, are the only sector posting positive returns at +5.13% YTD through March 19, 2020.  The degree of underperformance across sectors has gone hand in hand with credit quality and the degree of exposure between US and global factors.

Portfolio Performance: Year-to-Date as of March 19, 2020

* Treasuries as represented by Bloomberg/Barclays U.S. Treasury Index, Agency MBS as represented by Bloomberg/Barclays Securitized – U.S. MBS Index, CMBS as represented by Bloomberg/Barclays Securitized – Non-Agency CMBS Index, IG Corp as represented by Bloomberg/Barclays Corporate Bond Index, HY Corp as represented by Bloomberg/Barclays U.S. Corporate High Yield: 2% Issuer Cap Index, Bank Loans as represented by the S&P/LSTA Leveraged Loan Index and Emerging Mkt $ Sovereign as represented by JP Morgan EMBI Global Diversified Index

Portfolio Positioning: How We Are Managing this Volatile Environment

Assessing the Coronavirus

Our central case is that meaningful and forceful monetary and fiscal stimulus will help the U.S. and the world recover from the economic fallout related to efforts to contain the spread of the coronavirus. To date, the U.S. Federal Reserve has done its part, taking significant steps to ensure liquidity in the U.S. Treasury market.  Proposed fiscal measures seem to be forthcoming and appear to be appropriately aggressive. It is up to lawmakers to decide how fast that process can unfold.  We expect a W-shaped rebound, supported by global monetary and fiscal measures, and dotted with an occasional episode of concerns that will keep volatility elevated.

Portfolio Strategy - Buyer’s paradise or fool’s errand?

The degree of spread widening, in some cases to levels not witnessed since the financial crisis, cannot be ignored.  At the same time, we cannot lose sight of the liquidity needs by a range of market players that have turned fundamental trading relationships upside down, as evidenced by several trading sessions where equities and treasuries sold off on the same day. 

Across Securitizations, from a security selection standpoint, opportunities are available across the complex and the strategy remains biased to this segment of the market.  Fundamentals have been generally supportive across the consumer, housing and commercial real estate, so access to these same general risks at meaningfully wider spreads is presenting attractive entry points.  For example, the Credit Risk Transfer sector now broadly trades at a discount.  Today, prepayment risk is a positive catalyst to accelerate the realization of these discounted prices.  The pandemic is certain to have continued impact on the economy.  However, we believe recent price action suggests this is a buyer’s paradise. .  In this space, where every cusip has a story, the ability to pick around residual idiosyncratic risks that become even more established is a real advantage in the current market turmoil.   

With corporate sectors bearing the brunt of market declines in fixed income, we are drawn to idiosyncratic corporate opportunities across higher-rated companies that we believe can weather the storm, offering attractive returns on a volatility-adjusted basis.  This part of the market has been marked down aggressively (indiscriminately of strong fundamentals), and we don’t believe it’s necessary to reach for risk when opportunities are abundant across high quality investments.

Past performance is no guarantee of future results. The principal risks are generally those attributable to bond investing. Holdings are subject to market, issuer, credit, prepayment, extension and other risks, and their values may fluctuate. Market risk is the risk that securities may decline in value due to factors affecting the securities markets or particular industries. Issuer risk is the risk that the value of a security may decline for reasons specific to the issuer, such as changes in its financial condition. The strategy may invest in mortgagerelated securities, which can be paid off early if the borrowers on the underlying mortgages pay off their mortgages sooner than scheduled. If interest rates are falling, the strategy will be forced to reinvest this money at lower yields. Conversely, if interest rates are rising, the expected principal payments will slow, thereby locking in the coupon rate at below market levels and extending the security’s life and duration while reducing its market value. High yield bonds carry particular market risks and may experience greater volatility in market value than investment grade bonds. Foreign investments could be riskier than U.S. investments because of exchange rate, political, economic, liquidity and regulatory risks. Additionally, investments in emerging market countries are riskier than other foreign investments because the political and economic systems in emerging market countries are less stable.

The strategy employs a quantitative model to execute the strategy. Data imprecision, software or other technology malfunctions, programming inaccuracies and similar circumstances may impair the performance of these systems, which may negatively affect performance. Furthermore, there can be no assurance that the quantitative models used in managing the strategy will perform as anticipated or enable the strategy to achieve its objective.

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This information is proprietary and cannot be reproduced or distributed. Certain information may be received from sources Voya Investment Management (“Voya IM”) considers reliable; Voya IM does not represent that such information is accurate or complete. Certain statements contained herein may constitute “projections,” “forecasts” and other “forward-looking statements” which do not reflect actual results and are based primarily upon applying retroactively a hypothetical set of assumptions to certain historical financial data.

Actual results, performance or events may differ materially from those in such statements. Any opinions, projections, forecasts and forward-looking statements presented herein are valid only as of the date of this document and are subject to change. Nothing contained herein should be construed as (i) an offer to buy any security or (ii) a recommendation as to the advisability of investing in, purchasing or selling any security. Voya IM assumes no obligation to update any forward-looking information.

An index is unmanaged and does not reflect fees, brokerage commissions, taxes or other expenses of investing. Investors cannot directly invest in an index.

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