CLOSER LOOK DOMESTIC FIXED INCOME...Source: RL Indices Ryan Labs Asset Management 23 RL TREASURY...
Transcript of CLOSER LOOK DOMESTIC FIXED INCOME...Source: RL Indices Ryan Labs Asset Management 23 RL TREASURY...
CLOSER LOOK | DOMESTIC FIXED INCOMEDATA AS OF AUGUST 2016
Presented to: Pennsylvania Association of Public Employee Retirement Systems
Presented by: Ryan Labs Asset Management (Daniel J. Lucey, CFA, Sean McShea, Pawel Krasowski)
Presented on: PAPERS Webcast, September 21, 2016 at 10:30 AM EST
2
1. Current Capital Market Themes
2. Credit Cycle Overview
3. Appendix
3
17
33
TABLE OF CONTENTS PAGE
Ryan Labs Asset Management
3Ryan Labs Asset Management
CURRENT CAPITAL MARKET THEMES
ECONOMIC DATA POINTS & POTENTIAL IMPACT
Ryan Labs Asset Management 4
$4.5 Trillion New Treasury Issuance
Federal Funds Target Rate: 50 bps
30 Year US Home Mortgage Fixed Average: 3.65%
US 10 Year 1.54% versus Japanese 10 Year -0.08%
Negative Yields (Signal to lower lending standards)
Inflation: 1.8%
Demographics: In 2020, the 65 to 85 age group will be the largest growing
Crisis in Retirement Infrastructure1. Low Corporate pension funding levels2. Low Municipal pension funding levels3. Low DC savings
FED ASSETS APPROACH $4.5 TRILLION
Ryan Labs Asset Management 5Source: Bloomberg
INTEREST RATES SIT AT LOWEST IN HISTORY
Ryan Labs Asset Management 6Source: Bloomberg
MORTGAGE RATES NEAR LOWEST LEVELS IN HISTORY
Ryan Labs Asset Management 7Source: Bloomberg
INFLATION SHOWING LITTLE SIGNS OF IMMEDIATE THREAT
Ryan Labs Asset Management 8Source: Bloomberg
JAPAN 10 YEAR YIELD IS NEGATIVE
Ryan Labs Asset Management 9Source: Bloomberg
US 10 YEAR YIELDS NOT AS LOW AS YOU THINK
Ryan Labs Asset Management 10
US 10 Year Yields vs. Japan 10 Year JGBSource: Bloomberg
AGES 65 AND OLDER – HIGHEST GROWING POPULATION SEGMENT
Ryan Labs Asset Management 11Source: Crandall & Pierce
LABOR FORCE PARTICIPATION REMAINS LOW
Ryan Labs Asset Management 12Source: Bloomberg
EMPLOYMENT OFF HISTORICAL LEVELS
Ryan Labs Asset Management 13
Employment as Percent of Total US PopulationSource: Bloomberg
Ryan Labs Asset Management 14
Ryan Labs Asset Management 15Source: Ryan Labs Indices
ASSET LIABILITY WATCH – AUGUST 31, 2016
ASSET LIABILITY WATCH – AUGUST 31, 2016
Ryan Labs Asset Management 16Source: Ryan Labs Indices
Notes: RL PPA liability curve is the spot curve of the replication of IRS PPA curve (US credit A to AAA). RL Treasury liability curve is the proxy for economic liabilities.
Assumptions: Normal costs = annual contributionsNo benefit enhancements
17Ryan Labs Asset Management
THE CREDIT CYCLE
Ryan Labs Asset Management 18
THE CREDIT CYCLE
What is it? • The credit cycle tracks the expansion and contraction of access to credit over time.
Why is it important? • Influences the overall business cycle because access to credit affects a company’s ability to invest
• Overtime, performance of credit-oriented fixed income sectors are directly linked
• Sequence of events typically “rhyme”, not necessarily repeat
Ryan Labs Asset Management 19
THE FOUR PHASES OF THE CREDIT CYCLE
Falling Leverage
Rising Leverage
Higher Growth
Lower Growth
Downturn
Repair Recovery
Expansion
Ryan Labs Asset Management 20
Repair Stage• After economic
downturn
• Companies repay debt
• Focus on cost cutting & cash generation
• Corporate bond spreads typically decline
• Economic growth improves
Recovery Stage• Profit margins
improved
• Restricted balance sheets
• Reduced debt
• Free cash flows grows
• Corporate bond spreads continue to decline
• Economy continues to improve
Expansion Stage• Strengthening
economy
• Confidence improves
• Banks increase lending
• Corporations increase borrowing
• Corporate bonds face higher volatility
• Credit Cycle peaks
Downturn Stage• Slowing corporate
growth
• Increased borrowing
• Lower earnings
• Banks reduce lending & tighten lending requirements
• Corporate bond spreads widen & prices fall
• Economic slowdown or recession
THE FOUR PHASES OF THE CREDIT CYCLE
Ryan Labs Asset Management 21
CREDIT CYCLE: DELEVERAGING, THEN LEVERAGING
“History never repeats itself, but it does rhyme.” – Mark Twain
• High Default Rates begin to fall
• Companies in “Survival Mode”• Focus on Liquidity/Consolidation• Deleveraging Occurs
• Peak in Credit Quality (Leverage Nadir)
• “Animal Spirits” Re-emerge• Companies Focus
on Expansion
• Leverage Increases
• Defaults Start to Increase
Ryan Labs Asset Management 22
EVIDENCE OF A LATE-CYCLE CREDIT ENVIRONMENT
Flattening Treasury Curve
High and Rising Leverage
Tightening Credit Conditions
Peaking Margins
Fall in M&A Activity
Modest Slowdown in Employment
Possible Federal Reserve Rate Hike
Ryan Labs Asset Management 23Source: RL Indices
RL TREASURY YIELDS (12/31/2011 to 8/31/2016)
2 Year TSY 0.7955 Year TSY 1.1817 Year TSY 1.43910 Year TSY 1.56930 Year TSY 2.231
8/31/2016 Yield (%)
24Ryan Labs Asset Management
RISING HIGH YIELD DEFAULT RATE
Source: J.P. Morgan
Note: Long term default high yield rate based on number of issues
Ryan Labs Asset Management 25Source: Morgan Stanley Research, Bloomberg, Capital IQ, Moody’s, NBER
HIGH AND RISING LEVERAGE
Notes: Assumes US bond issuer default rates for 2001, 2009, and current. Assumes US speculative grade default rate for 19
Ryan Labs Asset Management 26Source: Yardeni Research, Standard & Poor’s, Thomson Reuters
LOWER CORPORATE MARGINS
Notes: Assumes US bond issuer default rates for 2001, 2009, and current. Assumes US speculative grade default rate for 19
Ryan Labs Asset Management 27Source: Pitchbook Data
FALL IN M&A ACTIVITY$1
56
$219
$264
$233
$182
$401
$267
$251
$194
$306
$240
$365
$200
$348
$289
$384
$327
$367
$439
$525
$571
$454
$484
$507
$540
$461
3,436 3,405
3,023
4,049
4,6014,427
4,142
4,4244,584
4,435
4,379
4,9534,476
4,334
4,5654,722
5,4325,5355,212
4,946
5,778
5,449
5,717
5,5475,176
3,906
0
1,000
2,000
3,000
4,000
5,000
6,000
7,000
$0
$100
$200
$300
$400
$500
$600
1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q
2010 2011 2012 2013 2014 2015 2016
Deal Value ($B) Deal Count
$ Billions Count
Ryan Labs Asset Management 28Source: Bloomberg
HISTORICAL CREDIT SPREADS
Ryan Labs Asset Management 29Source: Crandall, Pierce & Company, Bureau of Labor Statistics, Bureau of Economic Analysis
IMPLICATIONS OF A FED RATE HIKE
Overnight Rate (Federal Funds Rate) Increases
● Interest Rate at which depository institutions trade federal funds with each other overnight● Central Interest Rate in the U.S. financial market
Discount Window Lending Rate Increases
● Short term funding for financial institutions in three forms:(1) Primary Credit(2) Secondary Credit(3) Seasonal Credit
Prime Rate Increases
● Credit rate that banks extended to their most credit-worth clients- Primary index for most credit cards, home equity loans, and lines of credit● Typically 300 basis points (3%) over the Federal Funds Rate
Short Duration Curve Rises
Long Duration Curve Flattens
Heightened Volatility
Ryan Labs Asset Management 30Source: Federal Reserve Bank of St. Louis
OVERNIGHT RATE (FEDERAL FUNDS RATE)12/31/2010 TO 7/31/2016
Ryan Labs Asset Management 31
CONCLUSION
Low Growth Scenario
Demographics Drive GDP
Higher Overnight Rates does not mean higher Longer Term Yields
Low Liquidity Environment
High / Rising Leverage + Peaking Margins = Late Cycle Environment
Current Market Environment lends itself to Active Management
32
PERFORMANCE AND INFORMATION RATIO QUARTILE RANKING ENDING 6/30/2016
QUARTILE RANKING – RATE OF RETURN
QUARTILE RANKING – INFORMATION RATIO
Ryan Labs Asset Management
Source: Informa Investment Solutions (www.informais.com) Note: Performance presented above is gross of fees. There are 197 Firms and 401 Products in this universe. Ryan Labs Asset Management receives the PSN 6 star, Top Gun rating for our Core Strategy. 6 star is the top rating. While there is no payment required to be considered for, be awarded, or use the “Top Gun” award, Ryan Labs Asset Management purchases certain data services from Informa Investment Solutions, Inc.
Ryan Labs, Inc. Core Fixed Income
Ryan Labs, Inc. Core Fixed Income
33Ryan Labs Asset Management
APPENDIX
BOND MARKET WATCH AUGUST 31, 2016
Ryan Labs Asset Management 34Source: Ryan Labs Indices
BOND MARKET WATCH AUGUST 31, 2016
Ryan Labs Asset Management 35Source: Ryan Labs Indices
Assumptions:1. Nominals represent conventional U.S. Treasury Bonds and Notes.2. BEI = Breakeven Inflation Rate (Nominal yields minus TIPS yields). Widening BEI indicates that TIPS are outperforming nominal
bonds. When realized inflation is greater than implied inflation, TIPS also outperform.3. Current Inflation = Bureau of Labor Statistics, Year over Year Consumer Price Index (non-seasonally adjusted, all items, 1 month lag)
Ryan Labs Asset Management 36
0
Ryan Labs Asset Management 37Source: Crandall, Pierce & Company
INTEREST RATES
Ryan Labs Asset Management 38
TOTAL RETURN – FIXED INCOME
Source: Crandall, Pierce & Company
Ryan Labs Asset Management 39
TOTAL RETURN - EQUITIES
Source: Crandall, Pierce & Company
Ryan Labs Asset Management 40
TOTAL RETURN - ALTERNATIVES
Source: Crandall, Pierce & Company
Ryan Labs Asset Management 41
VALUATION & INFLATION
Source: Crandall, Pierce & Company
Ryan Labs Asset Management 42
EMPLOYMENT, ECONOMY, & TRADE
Source: Crandall, Pierce & Company
Ryan Labs Asset Management 43
RL CASH YIELDS (12/31/2010 to 8/31/2016)
1 Month TSY 0.3553 Month TSY 0.3106 Month TSY 0.46112 Month TSY 0.593
8/31/2016 Yield (%)
Source: RL Indices
Ryan Labs Asset Management 44
RL TIPS YIELDS (12/31/2010 to 8/31/2016)
2 Year TIPS -0.2665 Years TIPS -0.08910 Year TIPS 0.19430 Year TIPS 0.585
8/31/2016 Yield (%)
Source: RL Indices
Ryan Labs Asset Management 45
DO DEMOGRAPHICS DRIVE THE EQUITY MARKETS?
Source: Bank Credit Analyst
Ryan Labs Asset Management 46
JAPAN’S POPULATION BUST WAS LARGELY FORESEEN
Source: Bank Credit Analyst
Ryan Labs Asset Management 47
SPENDING TENDS TO DECLINE IN OLD AGE
Source: Bloomberg