Not even the King of Bonds could escape the carnage when
Federal Reserve chairman Ben Bernanke intimated this spring
that later this year the central bank would reduce its monthly
purchases of U.S. Treasuries and mortgage securities, sending
interest rates soaring. In the second quarter, a whopping $17.7
billion in net assets fled Pacific Investment Management Co.'s
Core Plus Total Return Full Authority strategy,
managed by bond guru Bill Gross, according to Atlanta-based
eVestment, which tracks data on 53,000 funds held by investors.
The exodus reflects a broader shift in bond asset allocation as
institutional investors search globally for yield.
With $476 billion in assets, the Pimco strategy combines
core medium-term U.S. bond assets, such as Treasuries, with
investment-grade, higher-yielding bonds that together raise the
total return of the portfolio. The bulk of the assets reside in
the $261.7 billion Total Return Fund, which Pimco co-founder
and co-CIO Gross has run since 1987.
Pimco's huge net outflows from its Core Plus
Total Return strategy are due at least in part to rising
interest rates, says Michael Rawson, a fund analyst at
Chicago-based Morningstar who analyzes shifts in asset
allocations. Indeed, rising interest rates prompted
institutional investors around the world to cut back their
exposure to fixed-income assets during the second quarter, as
well as to reshuffle allocations among fixed-income
Institutional investors withdrew a net $41.6 billion from
fixed-income funds in the quarter ended June 30, according to
eVestment. U.S. fixed-income assets alone experienced a net
outflow of $43 billion. Those outflows stand in stark contrast
to the previous five quarters, which saw a total net inflow of
$445.5 billion into fixed-income funds.
Source: eVestment (Click image to
During the second quarter, eVestment found that
institutional investors increased allocations by $6.1 billion
to fixed-income funds that invest globally. "More investors are
making a choice to move away from traditional fixed-income
products and more toward high-risk segments with more credit
risk," such as emerging-market bonds and floating bank loans,
explains Rawson. "An additional problem is that interest rates
are relatively low, even though they have come up quite a bit."
Growing fears of higher rates may drive investors to seek
shorter-term fixed-income instruments that can roll over into
higher rates later, Rawson adds.
Pimco benefited from the increased interest in fixed-income
funds that invest globally. The firm saw a $5.47 billion net
inflow into its Unconstrained Bond Fund, pushing its assets
under management to $35.4 billion. In July, the fund was the
most frequently searched strategy in the eVestment database,
which portends well for future inflows.
Rising interest rates may not necessarily lead to a
corresponding exodus from fixed-income products, argues Sabrina
Callin, the Newport Beach, Californiabased product
manager for the Unconstrained Bond Fund. Instead, she expects
investors to shift some of their fixed-income portfolios into
actively managed funds like hers rather than rely on a core
U.S. bond aggregate index.
"Fixed income, as an asset class especially
high-quality fixed income is a very powerful risk
diversifier, and that continues to resonate with investors,"
says Callin. By turning to actively managed bond funds and
strategies like Pimco's Unconstrained Bond Fund, "investors can
also benefit from alpha or higher risk-adjusted returns," she
For its part, the bond market is still reeling from the
spike in interest rates that began in earnest in May, when
Bernanke first talked about tapering the size of the Fed's $85
billion in monthly bond purchases. The yield on the ten-year
Treasury rose from 1.97 percent on May 21 (before Bernanke's
comments) to 2.52 percent by the end of June, rising as high as
2.90 percent earlier this month.
"The market is on edge over the impact of the Fed's
tapering," says Morningstar's Rawson. "It's somewhat ironic,
because the Fed has made it clear they are not planning to
actively increase the federal funds rates until 2016."
and market analysis from Pimco on Institutional
Investor's Global Market Thought Leaders blog.