Strategies that focused on long-duration U.S. government bonds once again swept their managers to the top of the charts in the 2002 Pensions & Investments Performance Evaluation Report for both fixed-income separate accounts and fixed-income commingled funds.
Long duration government bonds performed so well in 2002, primarily because of external forces including low inflation, interest rates at 40 year lows, the looming threat of war with Iraq and tensions with North Korea. Investors sought safe top quality investments.
Bridgewater Associates Inc., Westport, Conn., ranked first among all fixed-income separate accounts, with its extra-long duration bond strategy returning a hefty 35.9% for the year ended Dec 31. It also ranked first for the one-, three-, five- and 10-year periods, but not for the fourth quarter, when Western Asset Management Co., Pasadena, Calif., placed first with its U.S. index plus strategy, which returned 8.7% using shorter duration bonds.
Bridgewater's extra-long duration strategy is based on a 25-year zero-coupon bond benchmark, piling Treasury futures on long-duration debt, said Bill Mahoney, the director of global marketing. "You can't buy 30-year Treasuries any more, so we stack Treasury futures backed by cash on the longest bonds we can find to get a 25-year duration. Long-duration bonds provided a deflation hedge when interest rates were going down as they did last year," he explained.
Most of the other top performers in the PIPER universe of total fixed-income separate accounts also benefited by using long durations. S E B Asset Management America Inc., Stamford, Conn., placed second for its long-duration government strategy, up 20.2% for the year. It was followed by Hoisington Investment Management Co., Austin, Texas, up 18.6% for the year; Jennison Associates LLC, New York, which returned 18.6%; NISA Investment Advisors, St. Louis, up 17.7%; Haven Capital Management Inc., New York, up 17.1%; and State Street Research & Management Co., Boston, up 16.7%. Western Asset Management ranked eighth for its U.S. TIPS strategy, up 16.6% and 10th for its long-duration strategy, up 16.5%. Pacific Investment Management Co., Newport Beach, Calif., placed ninth, also for a long-duration strategy, up 16.6%.
The trend was similar in the PIPER commingled total fixed-income accounts for the year ended Dec. 31, 2002, with passively managed long-duration strategies outperforming actively managed funds. Barclays Global Investors NA, San Francisco, beat the competition, snaring the top two spots for its long government bond index fund, which returned 17.2%, and its 20+ Treasury bond index fund, which was up 17.1%.
Northern Trust Global Investments, Chicago, ranked third for its monthly long-term government bond index fund, up 17.1%; fifth for its monthly intermediate government bond index fund, up 13.3%; and ninth for its monthly long-term corporate bond index fund, which returned 12.6%; International Investment Group LLC, New York, ranked fourth with its IIG Trade Opportunities fund, up 13.7%. Loomis, Sayles & Co. LP, Boston, ranked sixth for its fixed-income fund, which returned 13%, and 10th for its investment grade fund, up 12.6%. UBS Global Asset Management, Chicago, placed seventh with its emerging markets debt fund, up 12.9%; and Associated Bank N.A., Neenah, Wis., ranked eighth with its intermediate bond fund, up 12.8%.
Investing in long-duration bonds contributed significantly to strong performance, said Anders Ekernas, chief investment officer at S E B Asset Management. "We were long compared to the composite index - the Lehman Brothers Government/Corporate Long-Term Bond index, which uses 10-year and longer investment-grade U.S. bonds. The average of the index is 11.5 years, and we were invested in issues two years longer than that much of the year from late March through mid-September. By extending the duration then and avoiding credit risk, we didn't suffer from widening spreads after the telecom blowups. The fact that we didn't own bonds from any of those companies helped us outperform."
Mr. Ekernas emphasized that since revenue growth is still slow, he doesn't believe it makes sense to buy corporates with credit risk until revenue growth starts to accelerate on a sustainable basis.
More long emphasis
Long was also the theme at Hoisington. Said President and Chief Investment Officer Van R. Hoisington: "We use a long-short strategy for our fixed-income composite strategy, but the emphasis is on long." The strategy uses only government securities, no agencies or mortgage-backed paper, and most have maturities of 26 to 31 years. "Inflation has been trending lower for a decade, and the inflation rate is still trending lower; it means yields will continue to go lower, too," Mr. Hoisington said. "When we see inflation turning around, then we will turn the strategy around, too." He noted that most of his clients use the Lehman Brothers Aggregate Bond index as their benchmark, which was up 10.3% for the year, while the Hoisington fixed income composite returned 18.57%.
Among the leading commingled funds, passive management helped spur growth. The top-ranked BGI government bond index fund invested in government and agency bonds with a duration of 10 years or longer, said Matt Tucker, portfolio manager in fixed income. "Last year rates fell sharply, the economy slowed, there were corporate scandals and political unrest due to problems in Iraq and Korea. As a result, there was a flight to quality, which helped the fund do well. Investors wanted high-quality investments with a safe return," Mr. Tucker said.
Securities lending also helped drive returns for the two Northern Trust commingled government bond funds, which ranked third and fifth in the PIPER survey, said Brad Adams, senior vice president of fixed income for quantitative management. "Active management didn't do well for the most part last year, and we were focused on the sector - long duration government bonds - that did exceptionally well, compared with other sectors, which is why the one-year numbers were so good," Mr. Adams said.
Trends changed a bit in the fourth quarter, when the top two winning commingled funds were actively managed.
UBS Global's emerging markets debt fund ranked first, returning 10.8%, although it was below its benchmark, the J.P. Morgan Emerging Markets Bond index, which returned 12.5% in the quarter. Maria Loucks, portfolio manager, said that the fund had done well by overweighting Russia and the Ukraine, and that successful Brazilian issues also added to its performance.
The Loomis Sayles fixed income fund, ranked second for the quarter, using a strategy that stresses diversity, according to Dan Fuss, portfolio manager. The fund combines domestic corporate bonds with government and foreign currency-denominated debt. In the fourth quarter, the fund performed particularly well with such telecom issues as Qwest Communications Inc. and foreign bonds such as those from the Brazilian federal republic. It returned 7.75%, trouncing its benchmark, the Lehman Brothers Government/Corporate Bond index, which returned just 1.73% in the period.