As central banks continue to raise interest rates, they have created growing volatility and uncertainty in bond markets. Yet Jennifer Hartviksen, a fixed income specialist at Toronto-based Invesco Canada, maintains this is part of the process of normalization as years of sub-par interest rates are being reversed.
Moreover, because of the uncertainty surrounding the direction of major economies such as the United States, Hartviksen argues that it's vital to be cautious and take an active approach to dealing with conflicting forces swirling through bond markets.
"What's caused the return to volatility is the removal of what used to be called the 'Fed put.' That was what supported the market," says Hartviksen, Head of Canada Fixed Income and senior portfolio manager who is lead manager of the $135.3-million Invesco Active Multi-Sector Credit. "But we have seen the Federal Reserve stop its quantitative easing and raise interest rates. The uneasy feeling comes from the market acknowledging that the Fed's support is no longer there and that we are returning to a more normalized market environment where volatility is part of the equation."
The risks in the market are roughly split between government bonds driven by interest rate risk and corporate bonds driven by credit risk. Hartviksen notes that interest rate risk has exacted more pain than credit risk this year. "Interest rate risk has become more dominant," says Hartviksen, a 26-year industry veteran who graduated with a BA in economics from the University of Toronto in 1992 and went on to a varied career in investment banking and fixed income management. For instance, Hartviksen notes that the benchmark FTSE TMX Universe Bond Index has returned -0.72% year-to-date. In contrast the Bloomberg Barclays Global High Yield Corporate Canadian Hedged Index has done marginally better and returned -0.04%.
Will corporate bonds continue to have a moderately upper hand going forward? "Yes. But the question is, for how long? It depends on a lot of factors. That's why at this point in the cycle active management is very important," says Hartviksen. "The corporate fundamentals appear to be good. But we have a U.S. mid-term election coming up. That could change the environment."
If the Republicans continue to control Congress there is some speculation that President Trump may introduce another round of corporate tax cuts, which would be stimulative. "We may see a scenario where rates will continue to rise and credit still does well. But if the U.S. doesn't continue to grow in 2019, or even decelerates in the back half, you could see interest rates start to come down. Then credit risk will increase. But we don't know what will happen. That's why active management is so important. It can respond to new information as it develops."
Invesco Active Multi-Sector Credit is a relatively new product which came into existence on July 27, when its predecessor Invesco Advantage Bond, a high-yield bond fund, was re-structured and re-named. It is modelled after several other Invesco multi-sector credit funds sold in markets such as the U.S. and Europe, which in aggregate have about US$1 billion in assets. The new fund is a by-product of a two-year-old integration of the Trimark fixed income group into Invesco's global fixed income team, which manages about US$314 billion in assets. Headquartered in Atlanta, and with offices in Europe and Asia, the team boasts 169 investment professionals and is diversified across geographies and asset classes such as emerging market debt and structured credit.
The goal of the new fund, which invests in four different fixed income credit sectors, is to achieve greater risk-adjusted returns and better performance than its peers in the Global Corporate Fixed Income category. As an active manager, Hartviksen is focused on generating income and capital preservation. And given the current climate she is emphasizing the latter. "We want to put together a portfolio that manages risk in such a way that the downside is limited."
One indication of Hartviksen's caution is in the fund's duration. It is roughly 3.77 years and over one year shorter than its benchmark, a blend of several high-yield and corporate bond indices. Despite the short duration, the fund has a running yield of about 3.03%, before fees.
Another indication of caution is the emphasis on higher-quality instruments. The average credit quality is BBB minus. Otherwise, the portfolio is split between 65% in corporate investment-grade bonds, 15% bank loans, 10% emerging markets and 10% high-yield bonds. Since the 700-odd issuers are largely U.S.-dollar denominated, the fund is hedged back to the Canadian dollar.
Some of the top issuers in the fund include SoftBank Group yielding 5.8%; 
First Quantum Minerals (FM) yielding 8.61%; and Cigna Corp. (CI) that yields 4.43%.
While security analysis accounts for about 75% of the security-selection process, Hartviksen says the remaining 25% is represented by an overlay of macroeconomic risk-management. Hartviksen, who commutes regularly to Atlanta, decides the asset allocation of the fund along with Joe Portera, chief investment officer, high yield, and multi-sector credit, and Ken Hill, multi-sector portfolio manager, both of whom are based in Atlanta.
"Risk management and downside protection are two of the key concepts we focus on," says Hartviksen. "When adding together different credit sectors there is an ability to [either] compound or diversify risk. These bonds combine interest rate risk, currency risk, country risk and credit risk. The benefit of our platform is the ability to invest in varied fixed income asset classes and dynamically manage risks."
Investing in individual sectors can lead to an approach where the investor may neglect to carefully scrutinize various sectors to determine where the risks really lie. "With our approach," says Hartviksen, "the team is able to look through the sectors to the individual risk level and ensure appropriate diversification and that there are no surprises."
For instance, while there may be almost two dozen individual risk components in the portfolio, Hartviksen and her colleagues remove much of the risk by mixing and matching the various components. The result is a defensive portfolio designed for the current bond market and macro conditions. Says Hartviksen: "The overall risk of the fund is toward the low end of the range."
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