Fixed income: MBS, high-yield strategies still champs last year

A continuing recovery in the mortgage-backed securities market contributed to solid returns for fixed-income managers in the year ended Dec. 31, according to Morningstar Inc.'s separate account/collective investment trust database.

High-yield strategies still represented the most of any strategy in the top 10, holding five of the spots, the same as the previous quarter.

“There's really not too much movement in the top 10, even though you do see some high yields drop and some high yields come on. Overall (there is) not too much turnover,” said Adam Baranowski, a data analyst with Morningstar in Chicago. “Probably the most notable thing is the emergence of the MBS composites. There's four of them on there.”

Domestic fixed income as a whole, though, did not have a good fourth quarter, according to Mr. Baranowski.

“For domestic fixed income, we had (an overall median) return of -0.65% compared to a positive 3.02% the previous quarter,” he said. “In fact, the only purely fixed-income broad categories that posted positive median returns for the quarter were high yield with 3.33% and convertibles with 7.11%.”

Mr. Baranowski said overall MBS strategies outperformed the overall domestic fixed-income market for the year ended Dec. 31, with a median return of 10.95%, compared with 7.41% for overall domestic fixed income. The Barclays Capital Government Credit index had a one-year return of 6.59%.

Brookfield Investment Management Inc.'s CMBS Composite strategy was the top performer for the third quarter in a row, with a one-year gross return of 64.08%.

The strategy had a one-year gross return of 64.64% as of Sept. 30, and a one-year gross return of 81.36% as of June 30.

“The success of the CMBS product is due to the significant credit compression that has been occurring over 2010 and our allocation to previously undervalued bonds in the middles of the capital structure,” said Michelle Russell-Dowe, managing director and head of structured products at Brookfield, in an e-mail.

“These securities benefit most from the reduction in tail risk that has been occurring as it is more clear losses will come in over a longer time frame and there will be emphasis on loan modifications rather than liquidation of larger loans.”

Pyramis Global Advisors' High Yield CMBS strategy came in second, with a one-year gross return of 29.41%. This is the strategy's first appearance in the top 10 managers.

The strategy is a broader approach, according to Stephen Rosen, Boston-based portfolio manager.

“We can invest in a variety of high-yielding real estate debt securities, (commercial) MBS, bonds of real estate, preferred stocks of REITs, residential MBS,” Mr. Rosen said.

“We've historically invested in CMBS, and when the market really had a lot of difficulties a couple of years ago, we started to boost CMBS relative to the other asset classes, and that's played pretty well in 2010.”

PENN Capital Management's Distressed Total Return strategy was third, with a one-year gross return of 29.03%, followed by Western Asset Management Co.'s U.S. Index Plus strategy with a one-year gross return of 26.41%.

“The real outperformance in this strategy has been our focus on two main sectors where we thought there was differential,” said Dennis McNamara, head of U.S. generalists and portfolio manager of short-duration strategies at Western Asset Management in Pasadena, Calif. “Corporate investment-grade bonds and non-agency mortgages. In both cases, as a value manager, we felt the pricing there was too low relative for the prospects for those sectors.”

In the corporate bond sector, overweighting large banks has done particularly well, according to Mr. McNamara.

TCW Group Inc.'s Strategic MBS strategy was fifth with a one-year gross return of 25.75%.

There were three different positions that contributed to the strategy's performance, according to Bryan Whalen, Los Angeles-based co-head of the mortgage-backed securities group.

“A large portion of the portfolio was positioned in the senior part of the capital structure in the non-agency sector,” said Mr. Whalen. “That's a sector that generated about 10% current yield and approximately 15% of price appreciation.”

Also contributing, according to Mr. Whalen, were mixes of asset-backed securities focusing on parts of the market such as aircraft leasing securitizations or shipping container securitizations; and agency derivative positions.

Rounding out the top 10 were Metropolitan West Asset Management LLC's AM AlphaTrak strategy, with a one-year gross return of 23.98%; Advisors Asset Management Inc.'s Credit Opportunities strategy, 23.07%; SMH Capital Advisors Inc.'s High Yield Institutional strategy, 22.11%; Brookfield's Opportunistic MBS strategy, 21%; and Hotchkis & Wiley Capital Management's High Yield strategy, 19.98%.

For the five-year period, TCW's Strategic MBS portfolio ranked first, with an annualized gross return of 19.36%. For the five years, the median was 6.16% and the BarCap index returned 5.56%, annualized.

Among collective investment trusts, DuPont Capital Management's High Yield Bond Fund had the top one-year gross return of domestic fixed-income managers, at 17.2%.

Completing the top five in the CIT universe were Neuberger Berman's High Yield Fund LLC at 15.67%; Pyramis Global Advisors' High Yield Core Institutional CF, 15.03%; Capital Guardian's U.S. High Yield Fixed Income, 14.16%; and Fort Washington Investment Advisors Inc.'s High Yield Fixed Income, 14.11%.

The one-year median return for collective investment trusts was 7.14%.