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The experienced team behind Loomis Sayles Core Plus Bond (NERYX) has successfully offset the risks of the strategy through rigorous analysis and skillful execution. Its strengths support a Morningstar Analyst Rating of gold for its cheapest share classes and silver and bronze for its more expensive share classes.
The experienced managers Peter Palfrey and Rick Raczkowski have skilfully managed this offer for more than two decades. You will work with two recently appointed co-managers who serve as the team’s mortgage specialists. Together they make effective use of the company’s extensive resources, which include an experienced and in-depth credit research firm with over 50 analysts.
The cross-industry expertise of this team, combined with a focus on value and risk balancing, is important given the flexibility of the strategy to go beyond the Bloomberg Barclays US Aggregate Bond Index. While the allocation to investment grade corporate bonds, agency mortgages and US Treasuries serves as the basis of the portfolio, it routinely holds high yield corporate bonds (up to 20% of the portfolio) and emerging market bonds and non-US dollar currencies (up to 10% ). The team often manages the portfolio’s duration and selects currency exposures to mitigate the risk of the credit-sensitive positions, but bold decisions have historically created short-term turmoil. This was the case, for example, in 2015 when the strategy’s energy sector and commodity-sensitive currency risks suffered.
For the most part, however, the team made good use of its flexibility, even during the extreme volatility of 2020. In recent years, the team had trimmed the corporate credit portion of the portfolio in favor of US Treasuries and agency mortgage-backed securities. These steps helped the strategy outperform 80% of its competitors during the coronavirus-related sell-off in early 2020. Then, when corporate bond prices hit historically low levels, the team reversed course and topped up that allocation in the months that followed. For the last 15 years through September 2020, I-share annualized earnings of 6% were among the best in Morningstar’s mid-range core-plus bond.
Process | High
The team’s valuation-driven approach has been key to successfully adapting the sector and risk exposure of this flexible bond strategy across different market environments. Additional support from strong credit research and robust quantitative instruments give the strategy a high process pillar rating.
This core plus bond strategy uses a broad investment universe that includes investment grade corporate bonds, agency mortgages, and US Treasuries, as well as higher risk sectors that are not in the Aggregate Index, such as high yield corporate bonds (up to 20%), emerging market bonds and up to 10% in non-dollar exposures. Its managers use a top-down approach to determining sector weighting, yield curve and duration positioning (usually within two years of the benchmark’s duration). They assess the phase of the current market cycle – expansion, downturn, credit repair or recovery – to inform the portfolio’s strategic positioning, respond to valuation changes, and can adjust duration or currency exposure to counter the portfolio’s credit risks – sensitive components.
The strategy’s high credit, currency and emerging market risks can sometimes lead to setbacks, but the team has also weathered turbulent market conditions, including the global financial crisis in 2008 and the coronavirus-related sell-off in early 2020.
People | High
The strategy benefits from an experienced and stable portfolio management corps that makes effective use of the company’s in-depth research teams and dedicated support and receives a high people pillar rating.
Long-time managers Peter Palfrey and Rick Raczkowski have been leading this strategy together since 1999. At the time, they worked for Back Bay Advisors, a subsidiary of Loomis Sayles; The companies merged in 2001. Since then, the management team has been stable, apart from a few additions in February 2020. Ian Anderson and Barath Sankaran, both mortgage specialists, oversee the MBS Sleeve agency’s strategy. Palfrey and Raczkowski also work closely with the team’s dedicated credit strategist, who offers investment ideas and acts as a liaison between the managers and the firm’s experienced group of more than 50 credit analysts.
The key to this team’s success in implementing a diversified, top-down approach has been the expansion of Loomis Sayles’ fixed income resources through the company’s executive team. The management team hired dedicated securitized and quantitative research teams, improved the group’s risk analysis, and installed a sector team structure to improve information sharing. Palfrey is a member of the firm’s US government and yield curve teams, while Raczkowski sits on the global asset allocation and investment grade teams.
Parent | average
Natixis Investment Managers, based in Paris, is the parent company of more than 20 asset managers of very different sizes worldwide, including Ostrum (its largest subsidiary) and H2O in Europe and Loomis Sayles and Harris Associates in the US. These affiliated companies have retained a high degree of operational autonomy in their investment philosophy. The quality of the investment culture differs from subsidiary to subsidiary, which leads to an overall neutral parent pillar rating. For example, the teams at Loomis Sayles and Harris Associates, managers for the US Oakmark funds, have had excellent results, with high quality communication with investors and minimal fund launches. The French-based subsidiary DNCA has also improved the fee structures of its funds in some cases since it joined the fleet in 2015. On the downside, Ostrum’s results are more mixed as the fund’s holdings have fluctuated in the past. Since 2018, Ostrum has embarked on a major cost-cutting plan designed to significantly reduce both headcount and the number of funds offered to investors. However, it is too early to say whether these changes will result in better results for fund investors. Ultimately, Ostrum has yet to demonstrate its ability to attract and retain talented investment professionals, and we also want its cost-cutting efforts to be broadly shared with investors in the form of lower fees.
It is important to evaluate the expenses as they come directly from the income. The share class in this report charges a fee that is in the second cheapest quintile for its category. Based on our view of the Fund’s People, Process and Parent pillars in relation to these fees, we believe this share class can deliver positive alpha relative to the category benchmark index and explain its Analyst Rating of Gold.
The team’s assessment-driven framework has produced strong long-term results. For the last 15 years through September 2020, the I-share’s annualized return of 6% was among the best in the mid-range core-plus bond category, outperforming its typical competitor by 1.2% (when comparing various funds).
The team managed to bypass the toughest markets. For example, it skilfully tackled both the 2008 financial crisis and the 2011 European sovereign debt crisis with timely sector shifts that limited losses and helped the strategy recover. More recently, the team reduced the portfolio’s exposure to spread products between 2017 and early 2020, which helped limit losses related to the coronavirus-related sell-off in early 2020. Between the high on February 20 and the low on March 23, the strategy peaked at 80% of peers despite a 3.6% loss. As market conditions improved, the Corporates team increased.
However, the team’s willingness to invest in speculative corporate and non-US dollar emerging market bonds has hurt the portfolio at times. For example, when commodity prices plummeted in mid-2015, exposure to energy-related corporate bonds and commodity-sensitive currencies suffered, resulting in one of the worst results in the category this year. Despite this setback, these positions helped the strategy outperform a credit rally in 2016 and 2017.
As of 2017, the team’s assessment that the US is in the final stages of economic expansion led the strategy to reduce its credit exposure. In 2020, companies accounted for 30% of assets (including 4% in high-yield and bank loans), up from 42% in 2016, while the securitized portion of the portfolio (mostly asset-backed securities and commercial MBS) increased to 4. % has been reduced from closer to 10%, and the share in emerging markets is halved to roughly 6%. At the same time, the share of the agency MBS rose gradually by 17 percentage points to 29% of the assets. The team also modestly extended the portfolio’s duration in February to hedge against growing credit worries.
This defensive stance helped the strategy outperform most of the rest of the world during the coronavirus-induced sell-off in late February and March, and positioned it to take advantage of historically attractive corporate bond yields. Managers added blue chip investment grade and select high yield issues following the Fed’s supportive measures, bringing the company’s total back to 40% in September 2020, including 7% high yield. The duration of the portfolio ended in the third quarter of 2020 around 0.6 years longer than that of the benchmark at 6.7 years.
However, the team remained cautious on emerging market bonds. Its share in local currency (mainly Mexico) remained near historic lows at just 2% of assets.