Bond portfolios that played it safe fared best

Safety reigns supreme this year, with managers of long-duration and government bond strategies taking six of the top 10 spots in Morningstar Inc.'s database of separate accounts and collective investment trusts for the year ended March 31. The top-10 list for the year was rounded out with two intermediate strategies, one short-term strategy and one multi-sector strategy. High-yield strategies, which outperformed consistently for the five years prior to the first quarter of 2008, continued to get hammered, returning a median -15.99% for the year ended March 31, and 1.1% for the five years, up from -22.1% and 0.34%, respectively. All figures for periods of more than one year are compound annualized. The median return for overall U.S. bond accounts was 1.46% for the 12 months, and the Barclays Capital U.S. Aggregate Bond Index registered a 0.12% gain in the period. “Government bond funds have tended to perform better than more corporate-focused funds because investors are demanding less risk,” said Rachael Olson, an institutional analyst for separate accounts and collective investment trusts at Chicago-based Morningstar. She noted that, though high-yield strategies had a rough year, they performed well for the first quarter of 2009, returning 5.91% overall. “Some high-yield strategies were returning in excess of 10% for the past quarter,” Ms. Olson said. “It shows that as credit spreads have started to narrow, the high-yield bonds have benefited from that price increase for the past quarter,” she said. “They're still underwater for the one-year period.” Hoisington Investment Management Co. of Austin, Texas, had the best-performing overall bond strategy for the one- and five-year periods ended March 31, with its macroeconomic fixed-income composite seeing a gross return of 17.79% for the year and a compound annualized 9.45% for the five-year period.
The Hoisington long government strategy is invested half in long-zero-coupon bonds and half in long-coupon Treasury bonds, according to Lacy Hunt, Hoisington's executive vice president and chief economist. “We manage using the Fisher equation, which says the risk-free long rate equals the real rate plus expected inflation,” he wrote in an e-mail response to questions. “History indicates that expected inflation is the main driver of this equation over time; thus, if inflation is falling, we position on the long end of the Treasury curve in order to capture capital gains. But, if inflation is rising, we move into Treasury bills in order to avoid capital losses,” Mr. Hunt wrote. He wrote that since 1950, a low inflation point has occurred an average 29 months following the end of a recession, noting that the severity of this economic downturn could put the low in inflation “even further down the road.” “Consequently, long Treasury yields should continue to decline irregularly, with the result that capital gains will augment the yield,” Mr. Hunt wrote.

OVERWEIGHT TREASURIES

St. Louis-based NISA Investment Advisors LLC's long-duration consolidated strategy took second place for the 12 months, with gross re-turns of 17.68%. The strategy re-turned an annualized 8.32% for the five-year period, earning it sixth place. Jess Yawitz, chairman and chief executive of NISA, said that the strategy's whole book of business for 2008 was underweight corporate bonds and overweight Treasuries. “We've been net buyers of corporate bonds across the board since roughly December of last year,” he said. “We've been significant buyers in the new-issue corporate bond market,” Mr. Yawitz said. “The story is we're more balanced in terms of what we own now between Treasuries and corporate bonds.” Mr. Yawitz said that the continued deterioration of the labor market will help increase unused or “slack capacity” in service for the next six to 12 months. “It's hard to imagine significant inflationary pressure in an economy with so much slack capacity,” he said. “That's the number we should be watching over time. Looks like [there will be] many years of trend growth before we run into capacity constraints,” Mr. Yawitz said. Hillswick Asset Management LLC of Stamford, Conn., ranked No. 3 with its long-duration government strategy, which had gross returns of 16.71% for the one-year period. The strategy took fifth place in the five-year universe at 8.36%. New York-based Jennison Associates took fourth and fifth place in the 12-month rankings, with its active long government strategy, at 15.94%, and active extra-long fixed-income strategy, at 15.81%. The strategies also placed in the top five for the five-year performance ranking, with the extra-long strategy No. 2 with an 8.6% return and the active long government strategy fourth with 8.44%. Mellon Capital Management Corp. of San Francisco came in sixth place overall with its long-term government bond index strategy returning 11.85% for the one-year period. The strategy ranked No. 7 for five years, at 7.3%. Los Angeles-Based TCW Group Inc.'s mortgage-backed securities strategy ranked No. 7 for the year, with gross returns of 11.81%. The strategy ranked third for the five years, with 8.58%. Lazard Asset Management LLC of New York entered the top-performing managers list this period at No. 8 with its U.S. enhanced core strategy, which had gross returns of 9.65% for the one-year period. Joe Ramos, lead portfolio manager for the strategy, said that securities selection was the most important aspect of performance. “In our case, we were opportunistic,” he said. “We're a securities selection shop; we look for intrinsic value.” Mr. Ramos said that the biggest contribution to performance was correctly surmising that shorter-term agency mortgage-backed securities were attractive. “If you select securities for a living, there are a lot of opportunities,” he said. Although long-duration bond managers topped the list for best performance, the median return for the long-duration bond universe dropped to 0.06% for the year ended March 31, down from 3.98% for calendar 2008. Median five-year returns were 3.98% for the category for the year ended March 31, down from 5.53% for 2008. Among bond collective investment trusts, the overall median was 2.1% for the year and 3.8% for the five years. Barclays Global Investors of San Francisco took the top two spots for the 12 months ended March 31 with its 20+ Treasury Bond Index commingled fund, at 15.4%, and Global Long Government Bond Index commingled fund, at 12.3%. Boston-based Putnam Investments' Core-Plus Fixed Income commingled fund ranked third at 8.9%, followed by Prudential Retirement's Government Securities PIM fund, earning 7.63%, and Minneapolis-based RiverSource Investments LLC's Trust Government Income Fund, with a return of 7%. Prudential Retirement is a division of Prudential Financial Inc. of Newark, N.J. Timothy Inklebarger is a reporter for sister publication Pensions & Investments.