Fixed income: Active matters

Fixed income markets kicked off 2018 with a volatile January, with the yield on the 10-year US Treasury increasing by 31 basis points to 2.72%, the highest level since 2014. (One basis point equals one-hundredth of a percentage point.) Passive core fixed income strategies that are benchmarked to the Bloomberg Barclays US Aggregate Index performed very poorly in this environment as their allocations are dominated by interest-rate-sensitive sectors, specifically US Treasurys, which are the largest sector in the Bloomberg Barclays US Aggregate Index at 37%. Conversely, active mutual funds should have the flexibility to work to mitigate interest rate volatility.

In fact, as the chart below shows, the average active intermediate-term bond manager outperformed their passive counterparts by 35 basis points during January. And the top decile active intermediate bond manager outperformed by nearly 68 basis points.

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Source: Morningstar

What this means for investors

In today's fixed income world with low interest rates, tight valuations, and arguably lower expectations for future performance, the ability to protect capital and deliver income has never been more important for clients to achieve their goals. Active fixed income strategies at their core are designed to deliver on these outcomes by managing risk through different market environments.

Passive investment strategies are designed to replicate market performance. As a passive investor in a US aggregate or intermediate-based index, you are bound by the allocations of that index, which is dominated by interest-rate-sensitive and low yielding sectors, specifically US Treasurys. Investors should consider an active manager that should have the flexibility to utilize out-of-benchmark sectors to help mitigate interest rate risk as well as increase yield.

Fixed income securities and bond funds can lose value, and investors can lose principal, as interest rates rise. They also may be affected by economic conditions that hinder an issuer’s ability to make interest and principal payments on its debt. The Fund may also be subject to prepayment risk, the risk that the principal of a fixed income security that is held by the Fund may be prepaid prior to maturity, potentially forcing the Fund to reinvest that money at a lower interest rate. • High yielding, non-investment-grade bonds (junk bonds) involve higher risk than investment grade bonds. The high yield secondary market is particularly susceptible to liquidity problems when institutional investors, such as mutual funds and certain other financial institutions, temporarily stop buying bonds for regulatory, financial, or other reasons. In addition, a less liquid secondary market makes it more difficult for the Fund to obtain precise valuations of the high yield securities in its portfolio.

Average active Intermediate term bond manager refers to the Morningstar Intermediate-Term Bond Category and compares funds that invest primarily in corporate and other investment grade US fixed income issues and typically have durations of 3.5 to 6.0 years. These funds are less sensitive to interest rates, and therefore less volatile, than funds that have longer durations.

© 2018 Morningstar. All Rights Reserved. The information contained herein: (1) is proprietary to Morningstar and/or its content providers; (2) may not be copied or distributed; and (3) is not warranted to be accurate, complete or timely. Neither Morningstar nor its content providers are responsible for any damages or losses arising from any use of this information. Past performance is no guarantee of future results.

All third-party marks cited are the property of their respective owners.

Past performance does not guarantee future results.

Index performance returns do not reflect any management fees, transaction costs or expenses. Indices are unmanaged and one cannot invest directly in an index.

The Bloomberg Barclays US Aggregate Index is a broad composite that tracks the investment grade domestic bond market.

Carefully consider the Funds' investment objectives, risk factors, charges, and expenses before investing. This and other information can be found in the Funds' prospectuses and their summary prospectuses, which may be obtained by visiting or calling 800 523-1918. Investors should read the prospectus and the summary prospectus carefully before investing.


Investing involves risk, including the possible loss of principal.

Past performance does not guarantee future results.

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