During a period more than one manager called a "'lifetime opportunity,” high-yield bond strategies emerged as the top performers in the fixed-income arena for the year ended Dec. 31, according to Morningstar Inc's separate account/collective investment trust database.
All 10 of the top performing strategies were in the high-yield category, a reversal from the previous seven quarters, when long-duration bond strategies dominated.
“The high-yield category has had a complete turnaround from its low point in the fourth quarter of 2008,” said Steve Deutsch, director of separate accounts and collective investment trusts at Morningstar Inc., Chicago.
He said high-yield managers were successful in 2009 because they pursued opportunities that were being shunned by other investors.
“Money managers were taking advantage of the discomfort of high yield at the time,” he said. “They were able to profit enormously because of the shift in values.”
For the year, the median overall bond strategy returned 9.97%, and the Barclays Capital Government Credit index returned 4.5%. In comparison, the median return in Morningstar's U.S. high yield universe was 46.5% and the Credit Suisse High Yield index returned 54.2%.
The top-performing fixed-income separate account strategy for the year ended Dec. 31 was the MFC Global's U.S. high-yield portfolio with a one-year gross return of 79.53%.
Barry Evans, chief investment officer for MFC Global Investment Management, Toronto, said the strategy focuses on buying securities of companies that were close to bankruptcy or coming out of restructuring. Portfolio managers look for companies whose capital structure led to renewed life.
“In the final consideration, attractive capital structure opportunities are the key to the success of our high-yield capability,” he said.
Mr. Evans had invested $100 million in issues of struggling XM Satellite Radio before its merger with Sirius Satellite Radio was announced in early 2007. Going into 2009, MFC Global saw representative positions grow from 30 cents on the dollar to 100 cents on the dollar, he said.
Another buy: Delta Airlines Inc., which became attractive because of the merger with Northwest Airlines Inc. Mr. Evans said the Delta-Northwest merger allowed for the consolidation of fixed costs among the companies. “Capacity was reduced while pricing metrics per passenger mile were improved, "'he said. “We increased our exposure as we viewed this as a company with improving revenue and pricing power.''
He said airlines have also figured to how to reap more profit by adding more fees for customers, he said: “They charge for the seat, to change the seat, and lunch.”
Another buy was cable company Charter Communications Inc., which filed for Chapter 11 bankruptcy protection in 2009.
“Charter Communications' Chapter 11 filing allowed the company to clean up their capital structure,'' he said. “Cable revenues remain relatively inelastic in the economic downturn. We increased our exposure as we viewed this as a company with improving revenue and pricing power”
Mr. Evans said there were many buying opportunities. “It was a once-in-a-lifetime opportunity to buy issues on the cheap in 2009,” he said.
Dwayne Moyers, Houston-based portfolio manager for the high-yield institutional account of SMH Capital — the second-ranked portfolio for the year, with a 77% return — said he purchased General Motors Acceptance Corp. and Ford Motor Credit Co. issues.
Because of concerns surrounding auto companies Mr. Moyers said he was able to buy the fixed-income issues as low as 40 cents on the dollar and see gains of more than 100%. “We had never seen bond prices that cheap in the high-yield sector in history,'' he said.
David Toussaint, Rockville, Md.-based portfolio manager for the Security Global Investors high-yield strategy, said many investors “freaked out” in 2009, but “I saw it as the buying opportunity of a lifetime.”
Mr. Toussaint said conditions were ideal: Spreads were wide and yields were high.
His strategy ranked third in the Morningstar universe, with a one-year return of 73.5%.
“There were good, solid companies that you could buy into at 30 and 40 cents on the dollar,” he said.
His holdings included Amkor Technology Inc., which he bought at 60 to 80 cents on the dollar and which finished the year above par at $1.05. He also purchased Galaxy Entertainment Group Ltd., which he bought as low as 40 cents on the dollar and Fortescue Metals Group Ltd., which he bought at the end of 2008 around 60 cents on the dollar. Mr. Toussaint said the bonds for the two companies have jumped in value and are now trading at $1.10.
Two of Pioneer Investments' high-yield strategies made it into the top 10 separate accounts for 2009. The Pioneer Global High Yield strategy ranked fourth with 64.8% and the Pioneer U.S. High Yield-Total Return was sixth with 63.9%.
Portfolio manager Tracy Wright said one tactic that worked for her was to trade for equity interests in companies that had filed for bankruptcy protection. “We believed certain distressed companies would recover and retain significant value,” she said.
Among those companies was the Lear Corp., a manufacturer of automotive seating systems. Ms. Wright said that her two portfolios originally took around a 1% position in company bonds in the first quarter of 2008. She said they received a nice slice of the company's equity in a pre-packaged bankruptcy in November 2009. She said Lear issued equity to bondholders that has since appreciated approximately 30%.
“Bankruptcy is a nightmare, but if you analyze the situation thoroughly you can sometimes gain,“ Ms. Wright said.
Another strategy she used was making sure that her portfolios were fully invested. “A lot of people were selling out at the bottom and not putting the money back in,” she said.
Ms. Wright also bought chemical companies, including Basell Service Co. BV and Nova Chemical Co. A series of bankruptcies in late 2008 in the chemical industry had reduced company valuations in that area, Ms. Wright said: “It made for some attractive buying opportunities.”
For the five years ended Dec. 31, the top performer was the TCW Strategic MBS strategy, with an annualized return of 14.3%; second-place Camden Asset Management LP's bond strategy returned 9.1% for the five years. Rounding out the top five were Utendahl Capital Management LP's Mortgage Backed Securities portfolio, at 8.95%; Neuberger Berman LLC's full market high yield portfolio, 8.5%; and the high-yield strategy of Artio Global Investors Inc., 8.4%. (All returns for more than one year are annualized.)
The median overall bond return for the five years was 5.2% and the benchmark returned 4.7%.
The TCW fund had been managed by Jeffrey Gundlach, TCW's former chief investment officer and chairman of the firm's multistrategy fixed-income committee. Mr. Gundlach was fired in December by TCW, and has since started a rival money management firm, resulting in lawsuits between the two companies. Mr. Gundlach said that going into 2009, more than 50% of the portfolio was in distressed mortgages.
Bond experts have classified 2010 as the year of the coupon and predict the equity-like run for fixed income is over.
MFC's Mr. Evans said there are still opportunities in 2010 but “the easy trades are over. Now it's a professional market.''