FOR useful analysis, The global Bond sector should be divided into funds that are able to hedge currency and those that are not
Some of the best performing funds over the last three years in the fixed income global dollar-based asset class have been those who had a flexible approach to currency hedging, moving in and out of positions as the market dictated.
A large part of the difference in performance year-on-year between funds in this asset class, between 1 November 1999 and 1 November 2002, can be attributed to the fund style.
Some fixed income global dollar-based funds hedge against currency movements and so perform better when the dollar is strong. Others do not hedge and perform better when the dollar is weak.
About a quarter of funds in the asset class are hedged and this makes comparisons between them and the non-hedged funds difficult.
The Payden International Bond fund has experienced changing ranking and performance over the last three years.
From 1 November 1999 to 1 November 2000, the fund was ranked in the second percentile in its asset class with a performance of 22.08%. From November 2000 to November 2001 it was ranked 29th and returns were 10.72% and, for the next 12 months it was ranked seventh percentile and returns were 3.58%. Over the three years performance was 30.33% and the fund was ranked fourth.
The fund is mostly currency hedged and invests in securities denominated in many currencies ' a third in dollars, a third in euros, a fifth in Japan, and smaller amounts in the UK, Australia, Sweden and Canada.
It is an investment grade higher quality focused fund that does not dip into emerging markets or high yield.
The fund tries to play down currency exposure to deliver fixed income type investment returns that capture the nature of the bonds invested in.
According to Laura Zimmerman, one of managing principles with the investment team, the general investment philosophy of the fund has not changed since launch, although there have been shifts between countries depending on the investment environment.
The fund now has a lot of duration in US securities and has been that way since the summer.
Its largest weight of interest rate exposure is in the US, where the management team expects future falls in long- term interest rates. It is neutral Europe, favours the US and is underweight Japan.
In November 1999 the fund was invested a third US, a third euro and had large weightings in New Zealand and Sweden.
The year 2001 can be split into two periods ' pre and post 11 September. Before the terrorist attacks in the US investors and managers were considering economic improvements and thinking the central bank might raise interest rates.
But 11 September took the last legs out of the market, caused a flight to quality and led investors to move into bonds faster.
This forced the management team to be more bullish on fixed income and more focused on the US market, says Zimmerman.
The core holdings of the fund today have remained constant but duration is shorter and there is a higher weight- ing to non-government credits including mortgage-backed sec-urities, says Zimmerman.
The last year-and-a-half has seen an unprecedented market, according to Zimmerman. Enron, WorldCom, and many other investment grade names have fallen into junk status or worse and this has highlighted the types of risks investment grade managers take.
The fund management team is more vigilant for potential problems and holds a more diversified portfolio as a result.
'If a name is in trouble we are likely to sell first and analyse later,' says Zimmerman.
The Oppenheimer Millennium International Bond fund had a percentile ranking of 23 from 11 January 1999 to 11 January 2000, and performance was 12.45%.
In the 12 months from November 2000, the fund dropped to a percentile ranking of 44 with returns of 9.36%. Performance was 5.62% over the following year. Over three years the fund was ranked five with a gain in performance of 29.88%.
The fund is designed to follow neither the hedged or non-hedged pattern of performance, according to Arthur Steinmetz, senior vice-president and director of national fixed income.
It is 40% denominated in dollars and 60% other currencies unhedged. The 40% in dollars is in emerging market government bonds.
This gives the fund credit exposure in emerging markets that competitors do not have.
'We think we have found the answer to good performance in strong and weak dollar scenarios ' by including emerging markets,' says Steinmetz.
'This adds a significant yield component above any G7 index and performance on a total returns basis that has been strong recently. It allows us to steer a course between two different types of competitors and pick up additional value.'
In the short term there is a lot of volatility in emerging markets and sometimes credit blow-ups, but with good active management losses can be dampened and gains captured on the upside, he adds.
The Butterfield Capital Appreciation Bond is ranked one over the three-year period with a gain in performance of 34.88%.
In the 12 months from November 1999, the fund was ranked 11 with a performance of 17.04%. Its ranking rose to two in the next year, with a performance of 18.13%, then ranking fell once more in the next 12 months down to 65 with negative -2.44% returns.
According to fund manager David Ware: 'The Asian crisis in the markets occurred in late 1998, but the Federal Reserve was tightening official interest rates until June 2000 and the equity market peaked in 2000 when the technology sector bubble burst.
The fund's investments did well in yield spread terms during this period but the positioning of the portfolio in order to benefit from the sustained easing of monetary policy by the Federal Reserve in 2001 was paramount.'
A relatively bullish stance on the dollar, an aversion to buying the bonds of technology companies, the relatively long average duration of the portfolio and a good selection of corporate bond names and some asset-backed issues helped the fund achieve good performance over the last three years.
Also, around 25% of the portfolio was invested in zero coupon bonds issued by supra-nationals and corporate issuers, which had no coupon reinvestment requirements as interest rates declined.
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