War Room 28 March 2012 Fixed Income in 2012: Are Bonds Still En Vogue?
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Transcript of War Room 28 March 2012 Fixed Income in 2012: Are Bonds Still En Vogue?
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War Room 28 March 2012
Fixed Income in 2012:Are Bonds Still En Vogue?
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War Room
•Monthly macro discussion
•Using tools in context
•Update on HiddenLevers Features
•Your feedback welcome
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Fixed Income in 2012 – Are Bonds Still En Vogue?
•Market Snapshot
•Fixed Income Fundamentals
•Outlook + Scenarios
•Fixed Income Functionality
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FIXED INCOME IN 2012:MARKET SNAPSHOT
HiddenLevers
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Market Snapshot: US Benchmark Rate
US Interest Rates at all time low, and pledge from Fed extended – rates will remain here until mid 2014.
The New Normal
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Market Snapshot – Fixed Income good stories
Treasuries + Emerging Markets Debt Funds have trounced the S&P 500, without the volatility
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Market Snapshot – Fixed Income good stories
Less volatility since the crisis helps folks sleep better
Many still haunted by Meredith Whitney comments in October 2010 for no reason
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FIXED INCOME FUNDAMENTALSHiddenLevers
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Fixed Income: Credit Risk Profiles
Even through financial crisis, credit risk not an issue for investment grade – but CCC and below has 57% lifetime default rate.
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Credit Risk: HY Credit Spreads
Credit spreads much narrower than crisis levels
Still above 30 yr average Further narrowing =
upside for HY, Munis, EM debt
Widening = flight back to treasuries
Sources: Citigroup + BofA Merrill Lynch
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Interest Rate Risk - DurationHow to control duration?
Shorten maturities Increase yield Hold to maturity Floating rate issues
Higher yield considerations Increased credit risk Higher correlation to
stocks
Sources: National Associations of Realtors, Home Builders, and Wells Fargo
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Interest Rate Risk: Yield Curve
The current yield curve is significantly lower than historical averages, with seemingly little precedent to drop further.
1980 – High Inflation 2003 – Last Recovery
2006 - Last Cycle Peak 2011- What's Next?
Avg Yield Curve 1977-2011
Source: Fidelity
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FIXED INCOME IN 2012:OUTLOOK + SCENARIOS
HiddenLevers
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Interest Rates Stay Low – Deflation Worry
US Interest rates going nowhere
Bernanke’s worst fear, and the reason for QE
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Consequences - Inflation:
1. Fed forced to tighten to contain inflation
2. 2014 pledge goes bye bye – Fed eats crow
3. Commodities keep rising – push cost of everything
4. Negative impact for equities and bond markets
Interest Rates Rise – What is the Driver?
Consequences - Growth:
1. Fed tightens as we get back to normalcy
2. Borrowing costs rise for financial firms, REITs
3. Bullish for equities as bonds lose luster
4. Precious metals not as shiny either
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FIXED INCOME – NEW FEATURESHiddenLevers
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HiddenLevers - New Features
• Fixed Income Support
• Cusips + Options now uploadable
• Macro Profile for Portfolio – need feedback
Coming soon:
• Scenario Hedging Wizard
• Excel-type pasting for Add Portfolio
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Fixed Income Functionality
CUSIPs now supported in edit portfolio or via portfolio upload
You can also manually enter custom fixed-income or cash-flow investments (including real estate)
How it works:– Interest Rate Risk Modeling: Calculates duration
and convexity to model interest rate risk – Credit Risk Modeling: Uses industry/sector or
proxy symbol to determine correlations, and uses ratings to determine volatility