government bond weightings in emerging markets are decided through economic and political research followed by credit analysis
The main focus of the JPMF Emerging Markets Bond fund has been to invest in government bonds using an active strategy.
This approach has proven successful for the portfolio and performance for the past five years has been up 13.59% compared with its benchmark, the JPMorgan Emerging Markets Bond Index Global index, which achieved 11.28%.
Since the fund's inception in June 2000, a specialist team based in New York has managed the portfolio. Although the fund has had different managers over this period, the investment strategy has remained the same.
Jeffrey Grills and Gunter Heiland have both been managing the fund since May 2003. The pair took over the portfolio from Paul Dickson, who gave up responsibility to pursue a different interest. The managers are also assisted in the fund by the economist Matias Silvani and three analysts.
Since its inception, the fund has favoured the oil countries such as Russia, Venezuela and Brazil. The portfolio has been overweight Russia since the default and this position has been the biggest driver of returns in the fund.
Ulrich Von Auer, client portfolio manager in international fixed income at JP Morgan Fleming says: "Russia is a safe haven regarding being influenced by factors affecting the global economy. For example, if interest rates rise in the US, Russia does not follow. Historically, countries that have a close affinity with the US increase interest rate when the Fed hikes them. Russia is not influenced by these factors and is trading in its own world."
Other positions that had benefited the portfolio have been in Venezuela, which also has an oil-rich economy, and the fund has had a major overweighting for the past six months. The country's fiscal balance has been good and there have been no problems in terms of liquidity.
The managers are presently also overweight Brazil as this country is a commodity play, but this position has been traded actively throughout the past year. This has been because the Brazilian government keeps increasing spending and core inflation has been a bit higher than the central bank feels comfortable with. The bank has been hiking rates since September 2004.
In early March, the portfolio had an underweight position in the country but, now the inflation situation seems more stable. The position has become overweight.
Von Auer feels the country allocation has been key to the good performance of the portfolios. He thinks 70% of the good performance comes from the country allocation decision and 30% from security selection within the country.
Countries that the portfolio has had underweight positions in have been the more developed areas of the emerging markets. This includes Poland, Hungary, Malaysia, Thailand and South Korea. These countries are investment grade and it is reflected in the price of the spreads.
The portfolio is managed against the JPMorgan EMBI and the risk budget tracking error is between 3% and 4% from the benchmark. The fund is actively managed and country allocation to overweights and underweights is no more than 10% from the index.
Turnover of the portfolio is around 200% a year. A typical position would be held for around six months, some positions are held for a few years and others are only held for two weeks.
Von Auer says there are stop-loss review levels, although these are not cast in stone. When the stop-loss level is reached, the managers evaluate the information available on the bonds and make a decision to hold or close a position.
Stocks are selected predominantly through a top-down approach. Von Auer says: "Government bonds are decided through examining the economic and political strategies in the countries. Factors such as liquidity and solvency ratios, fiscal balances, trade balances, international reserves, GDP and debt are examined. These are put into our model and a credit analyst is undertaken for each country. This is all done in-house as we do not rely on rating agencies, brokers or dealers."
The securities are then examined to see how they trade in the market. For example, for Turkey it is important to look at the political factors as the US is a close partner and gives the country a lot of money. However, for Mexico, Von Auer focuses on the economic factors as it is more integrated with the business cycle and there is not much to do with political factors.
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