Nine Fixed-Income Tips from PIMCO’s Marc P. Seidner, CFA
The CFA Institute Fixed-Income Management Conference is an annual event focused on global debt markets, fixed-income sectors, security selection, and portfolio construction. The Fixed-Income Management 2018 Conference will bring together researchers, analysts, portfolio managers, and top strategists in Boston, Massachusetts, on 11–12 October.
Marc P. Seidner, CFA, the chief investment officer of nontraditional strategies at PIMCO, has a strong track record of making solid fixed-income calls in an uncertain investing environment.
Ahead of the 2013 “taper tantrum,” he successfully made a counter-intuitive call that bond yields would fall. In fact, at the CFA Institute 2013 Fixed-Income Management conference, he explained why US Federal Reserve tightening in the near future was unlikely. And when he returned to the stage as the moderator of this year’s Fixed-Income Management conference, he shared his perspective on the current state of the economy, which remains fragile.
How can investors cope with the extraordinary, post-Great Recession policies of central banks? Seidner’s prescriptions were both direct and logical:
Three Secular Thoughts
- Stay on dry land and preserve capital — that is, target high-quality income-generating assets.
- Bottom-up over beta: Specifically, focus on choosing winners in the capital structure.
- Guard against negative yields.
Seidner characterized the secular outlook for the global economy as stable but not secure. Specifically, the post-financial crisis economy produces just enough growth to prevent a full stall. That puttering and sputtering is maintained by three policy props: sunk interest rates; materialization of currency, er uh, quantitative easing (QE); and healthy doses of leverage in some economies.
But these responses to near-catastrophic financial meltdown are facing diminishing returns, Seidner believes. Why? Because the costs of implementing them are rising. Consequently, Seidner expects the “stable disequilibrium to persist, but with elevated left-tail risks.”
In other words, the economy is fragile.
Three Cyclical Ideas
- Be very selective in the eurozone.
- There are opportunities in emerging markets.
- Scour the world and diversify.
PIMCO’s outlook for GDP growth and inflation in the world’s major economies ranges widely, according to Seidner. At the low end, the United Kingdom’s anticipated economic growth rate is 0.5% with inflation at 2.25%. China meanwhile is expected to grow at 6% with 1.5% inflation. Seidner also highlighted just how stable (i.e., not volatile) economic growth has been since 2011. While not shiny, it hasn’t been dull either.
He also pointed out several risks to keep in mind: the fast approaching limits of central bank policies; the uncertainty and likely overvaluation of securities caused by increasingly experimental central bank policies; elevated debt levels that will result in capital losses or rising inflation; political gridlock and the rise of populism; and greater regulation that is dampening liquidity. Wow! That sounds like a perfect storm.
But Seidner encouraged fixed-income investors to build metaphorical boats to better navigate these choppy waters. First, he says, be patient. Next, be tactical and flexible. Also, strive to be a price maker, not a price taker in trading.
Seidner also recommended investors avoid assets that depend entirely on central banks to support valuations and beware inflation.
Three Strategies for Markets
- Grind out alpha — active management is necessary because alpha is likely to be a higher proportion of total return.
- Benefit from periods of high volatility: In other words, buy the dips.
- Guard against the right tail: Don’t underprice opportunity and overprice risk.
Seidner believes that the new neutral — a federal funds rate that does not lead to expansion or contraction — is overpriced by markets. Also, he pointed out that globally government yields are all converging and hedged into the Japanese yen. And once more, he reminded the audience not to forget inflation risk.
To illustrate the latter point, Seidner showed that headline CPI in forecasts is finally tracking toward core CPI. Furthermore, inflation in the service sector is also rising. And he produced a slide that showed the convergence of bond yields less core inflation regardless of term. Put another way, there is no term premium any longer. What’s an additional 20 years among friends?
(That there is no term premium is completely crazy. After all, the benefit to be paid out by a bond is fixed, but with more time to term, only bad things that can hurt the creditworthiness of the credit can adjust that expectation.)
Finally, Seidner believes that the current economic growth outlook is supportive of credit.
And that paralleled the larger theme of his presentation: Central bank policies have distorted the fixed-income market, but amid the widespread uncertainty, there are still ample opportunities for smart investors.
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All posts are the opinion of the author. As such, they should not be construed as investment advice, nor do the opinions expressed necessarily reflect the views of CFA Institute or the author’s employer.
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