Strategic Fixed Income Investing

Build a fixed income portfolio that will weather volatility and instability

Designing a fixed income portfolio is an essential skill of any investment manager or advisor. This book outlines the critical components to successfully navigate through stable and turbulent markets, using real-life lessons from a seasoned institutional asset manager. The first section includes commentary on the changing fixed income market and overall economy, while the second section outlines the processes to navigate these ever-evolving markets including portfolio construction, the Federal Reserve, credit analysis and trade execution. Ladder Methodology is highlighted and the book discusses its pros and cons, gives examples of both well-constructed and poorly executed laddered bond portfolios and offers alternatives to traditional asset classes.

• Benefit from lessons learned, providing real life examples of market scenarios and trades
• Prepare fixed income portfolios that can weather any storm
• Written by Sean P. Simko, an expert on fixed income investing, who shares his investing experiences from the past 16 years
• Outlines the key principles of the Ladder strategy

From strategy to execution, Strategic Fixed Income Investing offers the road map to help investment managers prepare portfolios that will insulate investments against adverse market conditions.

Preface xi

Acknowledgments xiii

Part One The Investing Environment 1

Chapter 1 Expect the Unexpected 3

The Model Has Changed 4

Lessons Learned 4

From Bad to Worse 5

Chapter 2 Navigating through Troubled Water 7

Debt Ceiling 8

Triple A: Lost, but Not Forgotten 8

Possible, but Not Probable, Consequences 9

Warning Signs 12

Chapter 3 Lessons Learned 15

Patterns Emerge 16

Money Markets 18

Treasury Bills, the Favored Asset Class 20

Municipals Felt the Pain as Well 25

Auction-Rate Markets Were Hit Hard 27

Chapter 4 Direction in a Sometimes Directionless Market 29

Finding Direction 30

Part Two The Fixed Income Investor 35

Chapter 5 Define the End Investor 37

Risk 40

Risk-Averse Investor 42

A Problematic Trade? 43

Risk-Taking Investor 44

Define Your Strategy 45

Active Strategy 47

Chapter 6 Portfolio Construction 49

Factor 1: Defining Your Risk 50

Factor 2: Aligning Goals 51

Conservative Strategy 54

Moderate Strategy 56

More Aggressive Strategy 56

Factor 3: Portfolio Analysis 59

Reduction of Credit Risk 62

Government Securities 64

Risks to Consider 65

Bottom Line 69

Chapter 7 Asset Allocation 71

The Road Map 72

Going Global 76

Chapter 8 The Federal Reserve and Central Banks 81

Hawks and Doves 82

The Fed Funds Rate 82

A Short-Term Fixed Income Investor 83

Hooked on Accommodation 83

Deposits with Central Banks 84

What about the United States? 86

FOMC: Look for Clues from the Fed Statement 88

What to Look For from the Fed Clues? 88

FOMC Statement: August 2011 89

QE or Not QE 92

Calming Statements for Investors 93

Chapter 9 The Economy and the Markets 95

The Payroll Picture: The Backbone to the Economy 97

Bureau of Labor Statistics Website 97

Inflation: A Fixed Income Investor’s Enemy 103

Consumption: America’s Fuel 109

The Federal Chairman: The Wizard Himself 110

Chapter 10 The Yield Curve 111

The Spread 115

The Money Market Arena 116

The Direction of Rates 118

A Steep Yield Curve 119

A Flat Yield Curve 120

An Inverted Yield Curve 121

Listen to the Curve 123

Chapter 11 The Ladder and Why You Need One 125

How It Works 126

The Concept 126

The Goal 129

The Long End Poses Challenges 131

The Front End Is Technical 133

Varieties of Short-Term Strategies 133

The Sweet Spot 134

Liquidity 134

Consistent Coupons 137

Why Is Supply Important? 138

Performance and How to Measure It 140

Low-Turnover Dilemma 141

Success of a Strategy 142

Chapter 12 Alternatives to a Traditional Ladder Strategy 145

TIPS: The Other Treasury 147

Break-Even Opportunity 148

Consider MBS Pools of Mortgages 150

Consider Corporate Bonds 151

Floating-Rate Notes 153

What Is LIBOR? 154

A Deeper Look at LIBOR 154

The Bottoming Process 156

Chapter 13 Credit Analysis 159

The Agency 159

Credit Analysis: Necessary, Not Optional 160

Credit for a Passive Strategy 161

After the Initial Approval 163

Not All Bonds Are Equal 164

Stay Ahead of the Herd 166

Chapter 14 The Four Pillars of Trade Execution 169

The First Pillar: Executed Price 171

The Second Pillar: Dealer Inquiries 173

The Third Pillar: Liquidity 174

The Fourth Pillar: Ease of Transaction 174

Chapter 15 There Are No Roadblocks, Just Detours 177

Know What You Own 177

Banking Sector 178

Go with Your Gut! 179

Don’t Take It Personally 181

Trapped in Purgatory 182

Index 185

SEAN P. SIMKO is the Head of Fixed Income Portfolio Management at SEI, and a sought-after expert on fixed income investing and the financial markets. He leads a team of investment professionals responsible for research, analysis, implementation, and ongoing portfolio management of over $7 billion of fixed income strategies. Prior to joining SEI, Mr. Simko was vice president and portfolio manager for Weiss Peck & Greer Investments and was responsible for managing approximately $6 billion in assets through various strategies including short duration, tips, structured products, futures, and currencies. Mr. Simko has appeared on Bloomberg TV and radio and frequently on Money Matters, and he is regularly quoted in the Wall Street Journal and other mainstream publications. He has written numerous articles for financial magazines, including most recently, December's issue of Investment Advisor.

Fixed income investing is often unduly subject to the whims of inflationary economic forces, and, at best, serves a minor risk-management function. At least, that's the perception of most investors. But, according to consummate industry insider Sean Simko, nothing could be further from the truth. A well-constructed fixed income portfolio, says Simko, offers the promise of reliably consistent returns, even in the most turbulent and unpredictable market environments. Which is why knowing how to build and strategically manage one is a skill every investment manager and financial advisor surely needs to master.

In Strategic Fixed Income Investing, Simko draws upon his many years of experience as a successful global fixed income portfolio manager, with over 7 billion in assets under management, to share valuable lessons he has learned about creating a fixed income portfolio built to help weather any storm. He offers priceless insights into and methods for accurately sounding prevailing economic conditions, with an eye to identifying and investing in the most appropriate asset classes for every economic climate, whether its sovereign bonds, munis, T-bills, money markets or ABSs.

The first part of Strategic Fixed Income Investing explores recent changes in the fixed income markets, as well as recent and emerging economic and political trends and their implications for fixed income investors. With a laser focus and taking "expect the unexpected" as his motto, Sean Simko pursues a wide-ranging discussion covering everything from early warning signs of the 2008 financial collapse to the ongoing debt ceiling debates in Congress, the Federal Reserve, and the vagaries of monetary policy to loss of confidence in the AAA rating and the demise of Lehman Brothers.

In Part Two, Simko delineates a number of highly successful methodologies for navigating the ever-evolving fixed income markets. With the help of numerous case studies and real-world examples, he describes an array of tested-in-the-trenches portfolio construction and asset allocation strategies, as well as powerful analytic techniques. Foremost among the strategies he prescribes is the ladder strategy, which can help mitigate interest rate risk. Put in the simplest of terms, laddering entails evenly investing in bonds in different maturities, over a set time frame. As Simko vividly illustrates with examples drawn from his personal investing experience and from recent history, a well-orchestrated ladder strategy can help insulate a portfolio from the most adverse market conditions, while providing a consistent annual income stream, regardless of the interest rate environment or market cycle.

Offering an unparalleled opportunity to learn from a noted expert in the field, Strategic Fixed Income Investing is your best hedge against the flux and uncertainty of today's financial markets and the mounting instability of the global economy.

Fixed income investing is often unduly subject to the whims of inflationary economic forces, and, at best, serves a minor risk-management function. At least, that's the perception of most investors. But, according to consummate industry insider Sean Simko, nothing could be further from the truth. A well-constructed fixed income portfolio, says Simko, offers the promise of reliably consistent returns, even in the most turbulent and unpredictable market environments. Which is why knowing how to build and strategically manage one is a skill every investment manager and financial advisor surely needs to master.

In Strategic Fixed Income Investing, Simko draws upon his many years of experience as a successful global fixed income portfolio manager, with over 7 billion in assets under management, to share valuable lessons he has learned about creating a fixed income portfolio built to help weather any storm. He offers priceless insights into and methods for accurately sounding prevailing economic conditions, with an eye to identifying and investing in the most appropriate asset classes for every economic climate, whether its sovereign bonds, munis, T-bills, money markets or ABSs.

The first part of Strategic Fixed Income Investing explores recent changes in the fixed income markets, as well as recent and emerging economic and political trends and their implications for fixed income investors. With a laser focus and taking "expect the unexpected" as his motto, Sean Simko pursues a wide-ranging discussion covering everything from early warning signs of the 2008 financial collapse to the ongoing debt ceiling debates in Congress, the Federal Reserve, and the vagaries of monetary policy to loss of confidence in the AAA rating and the demise of Lehman Brothers.

In Part Two, Simko delineates a number of highly successful methodologies for navigating the ever-evolving fixed income markets. With the help of numerous case studies and real-world examples, he describes an array of tested-in-the-trenches portfolio construction and asset allocation strategies, as well as powerful analytic techniques. Foremost among the strategies he prescribes is the ladder strategy, which can help mitigate interest rate risk. Put in the simplest of terms, laddering entails evenly investing in bonds in different maturities, over a set time frame. As Simko vividly illustrates with examples drawn from his personal investing experience and from recent history, a well-orchestrated ladder strategy can help insulate a portfolio from the most adverse market conditions, while providing a consistent annual income stream, regardless of the interest rate environment or market cycle.

Offering an unparalleled opportunity to learn from a noted expert in the field, Strategic Fixed Income Investing is your best hedge against the flux and uncertainty of today's financial markets and the mounting instability of the global economy.