Credit is hot.
While investors suffered a “deer in the headlights” period following the market-crushing bankruptcy of Lehman Brothers Holdings Inc. last September, their first moves upon shaking off that initial shock have focused on credit-related opportunities in segments such as investment-grade corporate bonds and high-yield bonds.
Activity is “up remarkably this year,” said Marko Komarynsky, Chicago-based senior consultant and head of U.S. fixed-income manager research with Watson Wyatt Worldwide. Watson Wyatt has conducted more bond searches in the first five months of 2009 than it did for all of 2008, he said, reflecting the historically wide spreads between Treasury bonds and riskier paper brought about by unprecedented economic uncertainty.
Year-to-date industry figures are hard to come by, but Eager, Davis & Holmes LLC's Tracker Hiring Analytics database of publicly announced hirings by public pension funds and university endowments showed 79 fixed-income searches totaling $6.3 billion for the first quarter of 2009, the highest tally since the final three months of 1997. The database listed 43 fixed-income searches for the first quarter of 2008.
Those statistics don't include corporate defined benefit plans, which money managers and consultants say have been the leading purchasers of long-duration investment-grade bonds as a way to better match their pension assets with liabilities.
“There's been a ton of activity” this year, said Erik Knutzen, chief investment officer of investment consultant NEPC LLC, Cambridge, Mass. NEPC's fixed-income searches are up roughly 50% year-to-date from the year-earlier period. That activity has been driven by a jump in credit-related allocations, reflecting the firm's view that corporate bonds offer the best risk-reward trade-off right now, and a rise in allocations to Treasury inflation-protected securities, because the biggest looming risk is high inflation, Mr. Knutzen said.
It's been “an absolute flood,” agreed Kent J. Wosepka, Boston-based Standish Mellon Asset Management's CIO of active fixed income. He said Standish is competing in roughly one finals presentation a week these days for the firm's long-dated corporate bond strategy, up from practically nothing a year or two ago.
Mr. Wosepka said Standish already has garnered more than $1 billion for its long-dated corporate bond strategy this year from 15 plans, mostly sponsored by companies in the Fortune 500, reflecting growing interest in liability-driven investment programs. He declined to name them.
Industry sources cited Houston-based Shell Oil Co.'s $8 billion U.S. defined benefit plan as one corporate fund allocating money to long-dated corporate bonds in recent months. One source, who declined to be named, said Shell hired Boston-based Wellington Management Co. earlier this month to invest $240 million in corporate bonds. David Meade, Shell's general manager-pension investments, didn't respond to e-mailed questions and a company spokeswoman declined to comment. Wellington spokeswoman Lisa D. Finkel also declined to comment.
Long-dated corporate bonds have enjoyed a lot of demand, but interest in fixed income has been “across the board,” from high-yield bonds to high-grade credit, said Jude T. Driscoll, the CEO and CIO of Philadelphia-based bond boutique Logan Circle Partners.
Some market veterans say this year's early momentum should continue to build. Activity in the first five months of 2009 — a combination of new flows into fixed income and replacement searches — is “just the tip of the iceberg,” predicted Yariv Itah, a partner with Darien, Conn.-based money manager consultant Casey Quirk & Associates LLC. There should be as many searches in the second half of the year as there would typically be for a full year, he said. The flurry of mandates comes as managers, consultants and investors struggle to come to grips with an economic environment where old rules of thumb and assumptions about correlations among asset classes will be less useful.
Many fixed-income money managers say they are trying to fathom what the “new normal” for the economy could look like for the coming three to five years.
Without a well-thought-out view on what has changed, institutional investors hiring managers now “could easily go from the frying pan into the fire,” said Timothy R. Barron, president and CEO of Darien, Conn.-based investment consultant Rogerscasey Inc.
Jonathan Short, a managing director and head of sales for bond giant Pacific Investment Management Co., Newport Beach, Calif., said executives there are figuring out how PIMCO's investment approach will have to adjust to an environment marked by slower growth and a bigger government role in the economy, among other things.
Others are anticipating changes in asset allocation policies. With Treasuries enjoying one of their strongest years in 2008 while credit was suffering one of its worst, Jonathan Beinner, CIO for fixed income with New York-based Goldman Sachs Asset Management, said his firm has been making the case that investors should think of the two types of bonds as distinct asset classes, deserving of separate allocations. With so much uncertainty remaining, investors could benefit by giving skilled credit managers the flexibility to invest anywhere in the capital structure, he said.
