Enhanced core bond managers outperformed long-duration managers in the fourth quarter, while the reverse was true for the year, according to Pensions & Investments' Performance Evaluation Report.
Moving from the top to the bottom or from the bottom to the top of comparative rankings in just one quarter was a shock to many firms that were just trying to recover from a tumultuous third quarter.
Separately managed long-duration portfolios continued to be the top-performers in the PIPER universe, with a median return of 11.3% for the year ended Dec. 31, while reporting a median return of only 0.1% for the quarter. Convertible bonds topped the fourth-quarter median performance at 11.5%; they had a median return of 9.3% for the year.
Duration, yields, liquidity and interest rates all played parts in the rise and fall of bond portfolios for 1998, bond managers said.
Those portfolios with discretion to invest in emerging market debt, high-yield and non-U.S. bonds performed relatively well in the fourth quarter, after taking hits during the third-quarter flight to U.S. Treasuries.
Overall domestic fixed income had sluggish performance in the fourth quarter. Overall fixed-income portfolios in the managed account universe had a median return of 0.4% for the fourth quarter, and 8.4% for the year.
Among the commingled fund universe, the medians were 0.3% and 8.5%, respectively.
Manager performance was similar to that of the Salomon Broad Bond index, which returned 0.4% for the quarter and 8.7% for the year.
Loomis, Sayles & Co. LP ranked first in PIPER's quarterly comparative separate account ranking with its medium-grade bond account. The $9.8 billion composite portfolio returned 4.2% for the quarter thanks to some lowering yields.
Conversely, the portfolio ranked among the bottom 10 managers for 1998.
"It's the same bonds . . . new prices," said Dan Fuss, executive vice president and head of fixed-income at Boston-based Loomis, Sayles.
Loomis invests in bonds rated BBB- and higher and in non-U.S. bonds, non-Canadian bonds, convertible bonds, emerging markets debt and high-yield bonds. While these investments helped in the fourth quarter, they weren't enough to boost the year's performance of 4.3%.
The spread between U.S. Treasuries and the rest of the market widened a great deal in the third quarter only to narrow a bit in the fourth.
Liquidity is king
The bond market in the third and fourth quarters is best explained by liquidity, Mr. Foss said.
Loomis' long-duration portfolio placed seventh for the quarter among managed accounts, with a return of 2.37%. The account returned 9.1% for the year, putting it in the third decile.
San Francisco-based Seneca Capital Management also did well in the fourth quarter. The firm was second and fourth in PIPER's quarterly ranking with its value driven enhanced core account returning 3.1% and its value driven, fully discretionary portfolio returning 2.8%.
"In the fourth quarter to the extent you were able and willing to take on spread product (non-Treasuries) one benefited as liquidity returned," said Gail Seneca, chief investment officer of the firm, which has $3.4 billion in the PIPER portfolios.
In the fourth quarter, she said, spread products typically underperform Treasuries, as investors seek less risky investments.
In 1999, the big question won't be the direction of interest rates, but the size of the spread between Treasuries and the rest of the bond market. She expects investors will see stable interest rates and will add to portfolios investing in corporate bonds and other types of non-Treasury bonds.
The No. 3 spot for the quarter was held by Countrywide Investments Inc.'s tax-free fixed-income portfolio, which returned 2.9%.
Move away from Treasuries
In watching the selloff of the domestic high-yield market and emerging market debt in August's liquidity crunch, Chris J. Kelleher, managing director of fixed income at Phoenix Investment Counsel Inc., Hartford, Conn., decided to purchase non-Treasuries to meet the 10% allocation to the emerging market debt and high-yield bond sectors.
"November was the best month for non-Treasuries. While November was good, it wasn't as good as August was bad," he said.
He still sees plenty of opportunities, particularly in AAA taxable municipal bonds and commercial mortgage-backed securities.
Some of the corporate bonds that helped Phoenix's multi-sector enhanced core portfolio rank fifth among managed fixed-income accounts in the fourth-quarter were: WestPoint Stevens, Cablevision Systems and Tenet Healthcare Corp.
The portfolio returned 2.7% for the fourth quarter, but posted a 3.3% return for the year, placing it among the worst-performing portfolios for 1998.
Salomon Brothers Asset Management, New York, ranked sixth on the PIPER charts for the quarter, with its enhanced core fixed-income portfolio. David A. Torchia, managing director, attributed the fund's 2.5% return to its allocation to high-yield bonds. For the year, however, the strategy was the fourth worst in the universe, with 2.5%.
Mr. Torchia expects the $1 billion portfolio to thrive in 1999 as some sectors -- such as high yield and emerging markets -- that were "beat up" in 1998 recover.
LM Capital Management's John Chalker, managing director, agrees emerging markets will continue to improve. The La Jolla, Calif.-based firm's $45 million intermediate-term fixed-income portfolio is expecting continued success with its long-duration relative to its benchmark. The portfolio placed eighth in the PIPER quarterly rankings with a return of 2.2%.
Back Bay Advisors LP, Boston, is counting on corporate bonds to further boost returns. Gregory Prisk, executive vice president sales and marketing, said that at 56%, corporate bonds was the biggest bet the firm's total return management portfolio had in the fourth quarter.
Holdings in Ford Motor Co. in particular helped the $2 billion portfolio attain a 2% return for the quarter. Its 9.7% for the year placed the portfolio in the top quartile for that period.
Mr. Prisk suspects that firms that did well for both the quarter and the year "demonstrated greater savvy" and held on mainly to longer-term Treasuries.
King for a quarter
None of the firms ranking in the top 10 for the quarter had repeat performances for the year.
Pasadena, Calif.-based Western Asset Management's $4 billion long-duration bond portfolio topped the rankings for the year at 18.1%.
Ken Leech, chief investment officer, continues to see a modest decline in interest rates and selective opportunities in investment-grade bonds. Western's strategy for the year emphasized declining interest rates and a longer duration than the benchmark, he said. The firm also had reduced its exposure to non-Treasury sectors.
Western also had the best performance in the three-year PIPER rankings, returning a compound annualized 13.3%.
NISA Investment Advisors placed second for the year, also with a long-duration portfolio.
Jess B. Yawitz, chief executive officer of the St. Louis firm, believes 1998 justified the $1.6 billion portfolio's strategy of investing in long-term Treasuries.
"Duration was not your friend in the fourth quarter," he said.