Yield is important. So is stability. That’s why our philosophy is to selectively take on moderate risk exposures when the reward for doing so is favorable.
We believe that successful fixed income management is a product of maintaining a conservative discipline that does not take undue risks in pursuit of yield, but rather selectively takes on moderate risk exposures when the risk/reward tradeoff for that exposure is favorable.
Interest Rate Risk
It is difficult, if not impossible, to predict short-term movements in interest rates. Therefore, Reinhart Partners’ portfolios durations will not substantially deviate from the duration of the underlying benchmark, and we will not adjust portfolio durations based on cyclical factors affecting interest rates.
We will allow portfolio durations and exposures to different parts of the Treasury yield curve to differ slightly from their benchmarks based on longer-term secular factors and interest rate trends.
Lower quality investment grade credits have significantly higher default rates and significantly greater spread volatility than higher quality investment grade credits. As a result, the higher yields of lower quality credits do not result in sufficient excess return to compensate for their greater risk. In fact, they often underperform higher quality credits. Higher quality investment grade credits do offer sufficient excess returns versus Treasuries to significantly outperform with low additional risk.
Reinhart Partners will take on structure risk in clients portfolios in cases where the additional yield offered adequately compensates for the structure risk. Over most longer-term periods, the additional yield offered by GSE-guaranteed MBS will result in superior returns to Treasuries, and so we include these MBS in our portfolios as a way to generate excess returns while diversifying our risk exposures. In most cases corporate and U.S. government agency bonds with call features do not provide sufficient additional yield over longer time horizons and are not included.
Many factors must be considered when building an optimal portfolio. Our fixed income team uses the macroeconomic landscape, relative value between sectors, and issue level risk/reward analysis as input to make portfolio decisions such as portfolio duration, sector contribution to duration, yield curve positioning and structure exposure.
Expectations of changes in the macroeconomic environment are the prime determinant of interest rates, credit spreads, structure spreads and yield curve shape. Our fixed income team is constantly evaluating trends in GDP growth, employment, inflation, manufacturing, consumer income and spending, and other economic data to position our portfolios to take advantage of these trends.
Sector Relative Value
A key component to a portfolio’s total return is the duration and weighting of each sector relative to the index. Determining relative value between sectors allows us to adjust sector contributions to duration in different market environments to maximize total return potential.
Assess Credit Risk
The first step in assessing the value of company’s debt offerings is to objectively determine the amount of risk represented by that offering. We employ a three layered approach to credit risk assessment and management.
Credit Ratings: Our holdings are concentrated in securities rated A to AAA by at least one rating agency. Though the major rating agencies have not proven themselves to be a completely reliable source of forward-looking assessments of risk, their ratings matter and must be considered.
Flag Scores: We maintain a database that tracks bond, equity and CDS prices. We use sudden or significant changes in these to alert us that the market perceives a significant change in credit risk.
Internal Credit Analyst Research: Our credit research team develops credit risk assessments of our investable credits and constantly monitors developments that alter the risk profile of these credits.
Identify Potential Causes of Financial Distress: Using company filings/statements, sell-side research, news articles as well as industry and economic data, we develop an understanding of industry risks that may cause cash flows to be insufficient to service debt or the value of assets to be insufficient to support liabilities.
Determine Level of Exposure: Once we understand the potential causes of financial distress, we then determine how much of a negative outcome would be needed to actually cause financial distress for a given credit.
Assess Likelihood of Sufficiently Negative Outcome: After establishing levels of exposure, we estimate the likelihood of different severities of negative outcomes and use this to develop an overall likelihood of financial distress.
Credit Risk/Reward Assessment
To be considered for our clients’ portfolios, a security must offer returns sufficient to compensate for incremental risk relative to other investment options. To make this determination, we compare our risk assessment with the reward (spread) being offered in the market. A credit will be included in the portfolio if the assessment shows a favorable risk/reward balance.
Active Intermediate Portfolio Manager
Intermediate Duration Corporate Portfolio Manager
Limited Duration Portfolio Manager
Associate Portfolio Manager
Associate Portfolio Manager