Quick Take:The $539-million Loomis Sayles Global Bond Fund/Retail (LSGLX) has wide latitude in its investment mandate: It can invest in any fixed income security issued by either government agencies or corporations in any country, as long as it is attractively valued and located in a market with an improving credit and interest rate environment.
For the year ended May 31, the fund gained 4.7%, versus 3.1% for the average global bond fund. For the three-year period, the fund rose an average annualized 15.7%, versus a 9.9% gain for the peer group. Smart moves into foreign currencies such as the Norwegian krona and New Zealand dollar have helped the fund outperform.
The portfolio has demonstrated slightly more volatility than its peer group, with annual annual turnover at about half of the peer group average. The fund boasts an expense ratio of 1.15%, significantly below the peer group’s 1.37% average.
Kenneth Buntrock and David Rolley took over management of the Fund in September 2000, on the retirement of former manager John De Beer. Buntrock and Rolley also co-manage Managers Global Bond Fund (MGGBX). In addition, Rolley co-manages Loomis Sayles Worldwide Instl Fund (LSWWX). Both contributed to the interview.
The Full Interview:
S&P: What kind of securities do you invest in?
LOOMIS: We look for attractively valued fixed-income securities anywhere around the globe. Typically, the issuer has an improving credit profile. We think that the most value can be gained from securities whose credit risk has been inefficiently priced by the markets.
S&P: How do you construct the portfolio?
LOOMIS: We combine a top-down macroeconomic approach with a bottom-up bond-picking process. We regularly meet with our fixed-income analysts to formulate a bond policy to get a clear picture of the state of domestic and global bond markets by analyzing such factors as yield curves, interest rates, credit profiles, and currency. We also look at the stability and/or volatility of regional bond markets. This provides us with a blueprint. Then we work with our asset-class team to determine sector preferences.
Essentially, we seek to construct a portfolio with many moving parts, reflecting our assertion that different segments of the fixed income universe will underperform or outperform due to the vagaries of the various business cycles around the globe. We aim to outperform our benchmark and peers during down markets. Although we use a large team of analysts and researchers, we have the final say in all buy and sell decisions.
S&P: Describe the current portfolio.
LOOMIS: As of March 31, the fund comprised 179 positions, although the top ten positions accounted for nearly 30% of total assets. Our top holdings tend to represent our long-term, core positions: high-quality, highly-liquid, triple-A rated securities.
We like to keep a large number of holdings. We use diversification as a risk-control measure and we don’t make big bets on private sector credit issuers. Typically, the fund is spread across 30 countries, 40 industries and about 10 different currencies. This diversification allows us to be free of any single business cycle story.
S&P: To what do you attribute the fund’s recent outperformance?
LOOMIS: The fund rose 20.4% in 2002 and another 29.3% in 2003 [versus gains of 11.4% and 17.3%, respectively, by the peer group]. In 2002, when the dollar fell, we had big positions in some of the smaller investible currencies like the Norwegian krona and New Zealand dollar, which did extremely well that year, with gains of 30% to 40%. That was the year when credit really took a hit with the Enron and WorldCom crises, leading to a panic out of corporate bonds.
The stock market bottomed out in October of that year. At the time, high-yield spreads were 1200 points over U.S. Treasuries. In the fourth quarter of 2002, we increased our exposure to investment-grade corporate bonds, high-yield corporates, foreign currencies and the emerging markets. All these asset classes performed well in 2003.
After posting outsized returns in 2002 and 2003, we believed the bond rally would begin to lose steam and the Federal Reserve would begin to tighten and spreads would widen again. As a result, we brought our currency exposure closer to neutrality, relative to our benchmark.
S&P: What benchmark do you use?
LOOMIS: Up until a few years ago we used the Citigroup World Government Bond Index. However, government bonds only represent about one third of the foreign fixed-income universe, so we converted to the Lehman Brothers Global Aggregate Index, which is a much better reflection of the global bond markets. For example, the Lehman Index has about 17% exposure to corporate bonds.
S&P: What is the fund’s current credit profile?
LOOMIS: As of March 31, we had nearly half, 46.8% of total assets, invested in securities rated AAA. The other largest exposures were government agency, 17.8%; AA-rated securities, 10.8%; BAA, 8.6%; and BA, 7.7%.
S&P: What is the fund’s current country allocation?
LOOMIS: As of March 31, our top five countries comprised the U.S., 32.0%; Canada, 9.5%; Germany, 7.9%; the U.K., 7.6%; and Netherlands, 5.3%.
S&P: How has the portfolio changed over the past 12 months?
LOOMIS: Since March 2003, we reduced our exposure to corporate bonds and high yields because these asset classes had really outperformed. For example, our corporate bond exposure was cut from 23% in March 2003, to 21% by March 2004. Now, it is at about 18%.
S&P: Most of your top holdings are in the developed countries. How much can you invest in the emerging markets?
LOOMIS: We have had as much as 25% of the fund’s assets invested in the emerging markets. In March 2003, we had 11% in these markets, but that was cut down to 6% by March 2004. As we scaled back our exposure to high yield bonds, we also trimmed back on emerging markets bonds, because of outperformance and spread compression.
There is a misconception that bonds issued by emerging markets nations are high yield. This is simply not true. In fact, the majority of our emerging markets bonds are investment-grade securities. For example, Singapore’s sovereign credit is rated triple A, and Mexico is triple B.
S&P: You are allowed to invest in below investment-grade bonds. How much exposure do you typically have to junk?
LOOMIS: We are permitted to keep up to 20% of our assets invested in high yield or below investment-grade bonds. At times in the past we have nearly reached that level. In March 2003, we had about a 15% stake in securities rated below BBB; that figure was down to 13% by September; and declined to 9% by March 2004.
High-yield bonds enjoyed terrific outperformance relative to Treasuries from October 2002 through January 2004. We gradually pared back our exposure as we saw incremental greater value in other bond sectors. We don’t make sudden, drastic changes since we cannot time how long high-yield bonds would continue to outperform. However, in early May 2004, we added to some single- and double-B rated emerging market bonds.
S&P: The securities in your fund may be denominated in any currency. What is your currency profile?
LOOMIS: As of March 31, we had about 70% in non-dollar-denominated bonds and 30% in U.S. dollar-denominated securities. The Lehman Index has 59% in non-dollar and 41% in U.S. dollar. The Citigroup Index, which many global bond fund managers use as a benchmark, has only 20% in U.S. dollar and 80% in non-dollar.
Of the foreign currency allocation, 33.2% was denominated in euro, 8.8% in the yen, 7.1% in British pound sterling, and 5.9% in the Canadian dollar.
We have no limitations on the composition of our currency allocation. However, since this is a global bond fund, our investors expect us to have a significant exposure to foreign currencies, since they’re seeking diversification. It would be unusual for us to have, say, more than 50% in U.S. dollar-denominated bonds.
S&P: The U.S. dollar is actually up a bit against both the euro and yen so far this year. What will happen to your fund if the dollar gets stronger?
LOOMIS: If the dollar strengthens, the non-dollar portion of our fund will be repriced downward and hurt our performance. When the U.S. dollar weakens, the fund will outperform a comparable domestic bond fund.
The ideal scenario for us occurred in 2002 and 2003 when we witnessed dollar weakness and foreign currency strength. Global bonds greatly outperformed domestic bonds during those years.
S&P: How have you reacted to the likelihood of the Fed raising interest rates?
LOOMIS: In April and May, the bond market had already repriced downward in anticipation of a hike in interest rates at the June meeting. We see the Fed Funds rate at 2.00% by year-end 2004, and perhaps reaching 3.50% by the end of 2005. As a result, we are taking a more cautious investment approach. We are cutting risk by adding some maturity, shortening duration, boosting credit quality, and bringing currency exposure closer to that of the benchmark.
Contact Robert F. Keane with questions or comments at: