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Special Report: Top-Performing Managers

High-yield strategies lead the way in Morningstar’s bond universe

David Leduc, chief investment officer, active fixed income, at BNY Mellon Asset Management North America.

High-yield bond strategies led the list of top performers in fixed income for the year ended March 31, according to Morningstar Inc.'s separate account/collective investment trust database.

Half of the top 10 fixed-income strategies in the separate account universe were in Morningstar's high-yield bond categories. This follows long-duration strategies as the top performers in fixed income for the year ended Dec. 31. The first three quarters of 2017 also were highly represented by high-yield strategies.

Emory Zink, fund analyst, fixed-income strategies at Morningstar in Chicago, said recent interest-rate policies by the Federal Reserve are having more of an effect than in prior months. The Fed raised rates by 25 basis points in March to 1.5% under new Chairman Jerome H. Powell.

"So, there was some anxiety on passing the baton, but he's proven to pick up exactly where she (previous Chairwoman Janet Yellen) left off," Ms. Zink said.

There was a slow shift upward in the total yield curve over the course of the first quarter, and the 10-year U.S. Treasury rose to 2.7% from 2.5%.

The median return for domestic high-yield strategies in Morningstar's universe was 4.1% for the one-year period, while the median return for Morningstar's entire domestic fixed-income universe was 1.78%.

Ms. Zink noted it was one of the first quarters in a long time where long Treasuries lost 3.3% due to the long end of the yield curve finally rising.

Higher inflation expectations in the rising rate environment proved challenging for mortgages, she said. Mortgages lost 1.2% for the quarter, as did Treasuries.

After 2017, a year when credit performed well, investment-grade credit lost 2.3%, but high yield only lost 1% in the first quarter. In fact, higher (rated) tiers of credit suffered greater losses than lower tiers of credit — signaling that the source of the performance dip was related to interest-rate risk rather than a change in credit fundamentals.

"Within credit, banks continued to perform well, particularly given the change in the corporate tax rate. The energy sector was a strong performer, buoyed by strengthening oil prices," Ms. Zink said.

What performed well over the quarter were bond strategies with the flexibility to invest in sectors outside of the traditional core-bond landscape — allocations to high yield, emerging markets and foreign currencies, given the weaker dollar, were particularly helpful performance differentiators, Ms. Zink said. Strategies with shorter duration also benefited.

The Bloomberg Barclays U.S. Corporate High-Yield index returned 3.78% for the year ended March 31 and the Bloomberg Barclays U.S. Aggregate Bond index returned 1.2%.

TCW Group Inc.'s AlphaTrak strategy once again topped the domestic fixed-income list with a gross return of 13.6% for the 12 months ended March 31 and again topped the five-year list with an annualized gross return of 15.23%.

AlphaTrak has remained at the No.1 spot in the list of one-year gross returns every quarter of 2017 and has topped the five-year list since the third quarter of 2016.

Morningstar classifies AlphaTrak as ultrashort fixed income but TCW considers it an enhanced equity indexing strategy that uses S&P 500 futures to get equity index exposure while short-term fixed-income securities are actively managed to enhance returns above the index.

AlphaTrak's fixed-income component is diversified across bond issues including Treasuries, short-term corporate bonds, asset-backed securities, and agency and non-agency commercial and residential mortgage-backed securities.

BNY Mellon Investment Management's Standish non-U.S. unhedged corporate bond fund came in at No. 2 on the list, returning 13.48% for the year.

David Leduc, chief investment officer, active fixed income, at BNY Mellon Asset Management North America in Boston, said the unhedged strategy has "full flexibility to invest in markets in or out of U.S." The fund saw "strong positive returns benefiting from positions in the euro and Japanese yen."

Additionally, returns also were helped by strength in European interest rates.

"In Europe, we've been constructive on peripheral country interest rates — Spain, Portugal, Italy — in long-duration bonds," said Mr. Leduc. "As the European economy's been improving, specifically the credit health of these peripheral economies in Europe, those interest rates have been relatively higher than core markets such as France or Germany."

As a result, Mr. Leduc explained that those non-core markets have had more yield and those yields have come down, which is helpful to bond prices.

Meanwhile, the company was short U.S. duration and underweight U.K. duration.

Mr. Leduc said that when it comes to sectors, the firm remains "constructive on energy and on financials."

"Despite some of the noise we've been hearing, we've seen an environment where reasonable growth of fixed-income strategies is being supported and should continue," Mr. Leduc added.

DDJ Capital scores 3 top-10 strategies

Three of DDJ Capital Management LLC's bond strategies made it on the top 10 list this year, with its Total Return Credit II high-yield bond composite coming in at No. 3 with a gross yearly return of 11.48%, U.S. opportunistic high-yield composite ranking fifth, at 10.26%, and its bank loan strategy in sixth place, at 9.47%.

"Our ability to invest up and down the capital structure has been essential to our success," said Benjamin J. Santonelli, co-portfolio manager of DDJ's U.S. opportunistic high-yield strategy, portfolio manager of its total return credit strategy and assistant portfolio manager of the bank loan strategy. "We can invest in loans as well as bonds. This quarter, loans outperformed bonds."

Mr. Santonelli, who is based in Waltham, Mass., added that DDJ also focuses "on the lower tier of the middle market. So, we had two nice tailwinds" with loans and the lower tier midmarket.

Rounding out the top five were Miami Beach, Fla.-based Thomas J. Herzfeld Advisors Inc.'s Taxable Closed-End Bond strategy, which for the second consecutive quarter came in fourth place, with a gross one-year return of 10.96%.

Richard Lindquist, managing director and head of the high-yield fixed-income team at Morgan Stanley (MS) Investment Management, noted that high-yield middle-market companies that typically have a shorter duration, which MSIM focuses on, fared well in the first quarter. Plus, "ratings agencies view these credits as being riskier, which doesn't really play out, so a lot of them carry single B and triple C ratings," he added.

"Our positioning from a yield, duration and ratings standpoint helped," said Mr. Lindquist, adding "some of the sectors (in which) we're overweight, such as energy, consumer cyclical and capital goods" were big contributors.

MSIM's global high-yield bond fund came in at ninth place, returning 8.2% for the year.

High-yield strategies also continued to dominate the list of top performers for the five-year period ended March 31, with seven of the top 10 strategies overall in Morningstar's high-yield bond category.

The annualized return for Bloomberg Barclays' U.S. Corporate High-Yield index was 4.99% for the five-year period, the median return for high-yield strategies was 4.92%, and the entire Morningstar domestic fixed-income universe returned a median 2.29% . All multiyear returns are annualized.

The Select High Yield Composite from MacKay Shields LLC, New York, was in second place following TCW's AlphaTrak strategy, with a 7.51% return. DDJ Capital's U.S. Opportunistic High-Yield Composite ranked third, with a 7.48% return.

Rounding out the top five for the longer period were the Herzfeld Taxable Closed-End Bond strategy at 7.32%, and Baltimore-based T. Rowe Price Group Inc.'s Europe High Yield Bond strategy at 7.22%.

In the collective investment trust universe, State Street Global Advisors' U.S. Long Credit Bond Index fund topped the list with a net return of 6.29% for the year ended March 31, followed by Capital Group Cos.' Global High Yield fund, with a net 6.24% return.

Two strategies from Fidelity Institutional Asset Management followed on the one-year list. FIAM's Long U.S. Treasury STRIPS Pool came in third place with a net return of 6.14% for the year ended March 31, while FIAM's Long Corporate Pool was in fourth place with a net 6.03%.

Shenkman Capital Management Inc.'s Four-Points Multistrategy Fund rounded out the top five with a 5.44% return.

The median return for fixed-income CITs in Morningstar's universe was 1.54% for the year and 1.99% for the five years ended March 31.

The top five CITs for the five years ended March 31 were Eaton Vance (EV) Corp.'s EB High Yield Fund, with a net return of 5.26%, followed by the T. Rowe Price's U.S. High Yield Fund, returning 5.04%. State Street U.S. Large Credit Bond Index Fund came in at No. 3, with 4.77%; while FIAM Long Corporate Pool returned a net 4.73%. Wellington Management Co. LLP's CIF II High Yield Bond completed the top five with a net 4.69% return for the five-year period.

All data for P&I's top-performing managers report are provided from Morningstar's global separate account/collective investment trust database. The data for the rankings on which this story is based were pulled April 25.

Top-performing managers: overall U.S. bonds
One-year returnCategoryGross returnNet return
TCW Alpha TrakU.S. SA ultrashort bond13.60%12.52%
Standish Non-U.S. - UnhedgedU.S. SA corporate bond13.48%12.81%
DDJ Total Return Credit II CompositeU.S. SA high-yield bond11.48%10.00%
Herzfeld Taxable Closed-End BondU.S. SA intermediate-term bond10.96%10.13%
DDJ U.S. Opportunistic High Yield Comp.U.S. SA high-yield bond10.26%9.68%
DDJ Bank Loan StrategyU.S. SA bank loan9.47%8.89%
Standish Global TIPSU.S. SA inflation-protected bond8.84%8.79%
TCW Opportunistic MBSU.S. SA high-yield bond8.78%8.02%
Morgan Stanley (MS) Global High YieldU.S. SA high-yield bond8.20%6.84%
MacKay Select High Yield CompositeU.S. SA high-yield bond8.13%7.48%
 
Five-year returnCategoryGross returnNet return
TCW Alpha TrakU.S. SA ultrashort bond15.23%14.59%
MacKay Select High Yield CompositeU.S. SA high-yield bond7.51%6.96%
DDJ U.S. Opportunistic High Yield CompU.S. SA high-yield bond7.48%6.93%
Herzfeld Taxable Closed-End BondU.S. SA intermediate-term bond7.32%6.46%
T. Rowe Price Europe High Yield BondU.S. SA high-yield bond7.22%6.68%
Flaherty & Crumrine Separate Mgd. AccountU.S. SA intermediate-term bond7.07%6.56%
TCW Opportunistic MBSU.S. SA high-yield bond6.85%6.11%
Lord Abbett High Yield OpportunisticU.S. SA high-yield bond6.81%6.28%
Nomura NCRAM HY Total Return Inst'lU.S. SA high-yield bond6.74%6.21%
Morgan Stanley U.S. High YieldU.S. SA high-yield bond6.65%5.75%
Source: Morningstar Inc.