Near the end of 2014, we discussed the potential benefits of actively managed exchange-traded funds (ETFs) in helping investors navigate the credit cycle. In early 2012, WisdomTree selected Western Asset Management Company (Western) to serve as sub-advisor for certain fixed income strategies, including the WisdomTree Strategic Corporate Bond Fund (CRDT).1 Looking ahead, we anticipate that many other well-respected managers will begin to enter the actively managed ETF space. A key question from many investors will be how these managers plan to transfer the success they’ve had in mutual funds or separately managed accounts to the ETF structure. Looking back over the past two years, we seek to highlight some of the attributes that contributed to CRDT beating 90% of all other open-ended mutual funds and ETFs in the Morningstar “World Bond” category since its inception (CRDT ranked 37th out of 367 funds for the period 1/31/12 to 12/31/14, based on total return).2
For current performance of CRDT, click here.
#1: Team-Based Approach That Identifies Value
Western’s key investment philosophy hinges on long-term, fundamental value and diversification. What this means is that it tries to combine the fundamental view of a security with the security’s pricing in the marketplace. Identifying dislocations between fundamentals and prices is its definition of value. As a result, since Western has done its homework on the way in, it’s easier to have conviction to stay invested. If current market pricing drops, and the fundamental value view has not changed, then Western would potentially add to the position or strategy. A perfect example of this process in practice is investments in the debt of certain banks in the U.S. In the last few years, many banks have spun off noncore businesses and reduced debt. While earnings may have recently disappointed equity markets,3 continued deleveraging and back-to-basics banking are clear positives for investing in their debt.
#2: Combination of Top-Down & Bottom-up Analysis
Top-down analysis often refers to the macroeconomic view: Which countries and sectors look attractively priced? Bottom-up analysis looks at the underlying fundamentals of a specific issuer compared to its competitors. You can see the integration of the top-down and bottom-up processes when you look at the structure of Western’s trading floor. Analysts, traders and portfolio managers (PMs) all sit next to one another on the floor to exchange ideas. On the desk, the analyst role is not considered a junior position or a necessary rotation on the path to becoming a PM. In fact, this role is generally considered a career-track position. Analysts are able to take ownership of a specific trade idea from the very early stages all the way through implementation and monitoring.
In a largely policy-driven market, macro strategies are extremely important, particularly in terms of being a complement, or hedge, to some of the positions in the portfolio. Every week, the U.S. Broad Strategy Committee at Western discusses interest rates, broad sector allocation and potentially even some subsector allocations. Each of the sector heads on the Committee, which is chaired by Western CIO Ken Leech, plays a major role in debating market views and portfolio composition. Throughout most of 2014, Western’s view was that longer-term interest rates would remain contained or fall. As a result, CRDT’s portfolio was invested in slightly longer-duration securities than its performance benchmark.
#3: Global Approach to Credit
As we have mentioned previously, investing in stocks and bonds has evolved into a global pursuit. As of December 31, 2014, a full 60% of the investable universe for credit is domiciled outside the United States.4 It is important to remember that many of these foreign bonds are denominated in U.S. dollars and constitute sizable portions of index-based strategies that many investors may already unknowingly have exposure to in their portfolios. However, all risks are not created equal.