Rydex/SGI's Long Short Interest Rate Strategy Fund, a ’40 Act mutual fund, is a total return, actively managed fund designed to “exploit changes in the interest rate outlook, and to deliver positive price performance even in rising rate environments.” The fund invests in short-term Treasury bills, and government and agency bonds, using Treasury futures.
The fund follows a rigorous rules-based methodology that is designed to capture both the fundamentals of interest rate cycles along with monthly forecasts on the direction of rates. The methodology is delivered by the fund’s subadvisor, American Independence Funds and its chief strategist for taxable fixed income, Kirk Barneby.
But long before now, the process behind the fund’s investing strategy was being explored by Barneby (left), and first saw light as a separately managed account. Beginning in the 1970s, Barneby said in an interview on Friday, he started his research into the behavior of interest rates, which became the basis for a SMA bond discipline at Paine Webber. Barneby points out that the period from 1973 into the present has been a “great lab for this strategy," lisiting the three serious recessions in the period, with accelerating inflation followed by a period of decelerating inflation. How has the strategy done over that time? “It’s performed well,” responds Barneby.
What was the impetus behind the new Rydex fund? “Since the 1980s, investors have looked at bonds as their ‘safe’ money,” he says, but because the prior recessions weren’t serious, “earnings risk never factored” into investors’ thinking. “We learned in 2008-2009,” however, that “earnings risk can dominate the return profile of fixed income.” While Treasuries rose, other fixed income was affected by both credit risk and earnings risk. Now, he says, investors are concerned about rising interest rates, which can impose a loss on the value of their bond portfolio, especially if those investors are stuck in longer-duration bonds. “If rates rise by 2%,” he points out, “and your duration is five years, you lose 10%” of the value of your fixed income holdings.
The strategy is designed to manage interest rate risk by quantitatively determining a monthly interest rate forecast—based on measures of the economy, inflationary expectations, and investor psychology using market indicators—and then using Treasury futures to short, or go long, interest rates based on that outlook. (The rate outlook is released on the first Friday of the month coincident with the release of the government’s employment situation report.)