Interest rates are low globally, markets are volatile and investors are looking for alternatives to near-zero, or actually negative (in real terms), money market yields. To meet the needs of investors in this environment, PIMCO is launching the Global Libor Plus Bond Strategy. In the following interview, Portfolio Managers and Managing Directors Mike Amey, Mohit Mittal and Marc Seidner discuss their investment approach and its potential benefits.

Q: What is the Global Libor Plus Bond Strategy and why are you launching it now?

A: This is a new absolute-return-oriented bond strategy targeting Libor +2%-2.5% with an annualized volatility of 2%-4%. We will manage the strategy to seek consistent outperformance over money market interest rates, with a focus on preserving capital over rolling 12-month periods. As a truly flexible and global bond strategy, the strategy will benefit from PIMCO’s rigorous and time-tested investment process and reflect our full suite of active investment views across the global fixed income markets.

We developed this strategy in response to client concerns about a protracted period of low, and in some cases even negative, interest rates. The strategy will seek to generate sustainable positive absolute returns and offer broader investment flexibility than traditional fixed income strategies. We believe investors can use the strategy in conjunction with, or as a substitute for, traditional money market and fixed income solutions.

Q: What are the key investment focuses of the strategy?

A: The strategy will invest the majority of its assets in high quality investment grade bonds. It will seek to diversify across sectors and risk premiums such as credit, interest rate, currency and volatility. A core component of the portfolio will be low-duration investment grade securities (up to 5 years in maturity), such as government, corporate and asset-backed bonds. This part of the portfolio, carefully selected based on PIMCO’s credit research process, is designed to be the backbone and a stable source of income over time. In addition to this core allocation, the portfolio will employ PIMCO’s active alpha generation strategies focused on global interest rates, credit sectors, currency and volatility strategies.

In terms of expected contribution, high quality credit and global interest rate exposures will provide the bulk of the strategy’s returns over time. The credit component of the portfolio will comprise mainly outright sector views (investing in sectors we deem attractive) as well as relative value (long/short) strategies across sectors and individual issues. The interest rate component will also be managed dynamically and have a relative value tilt across various markets and interest rate curves. On average, we expect the strategy to have a low positive duration posture over time, which will be both a source of returns and a diversifying anchor to credit risk in the portfolio. Whilst there is flexibility to invest in higher risk sectors such as currencies, high yield and emerging markets, the strategy’s allocations to these types of strategies will be modest and opportunistic, given the primary focus on capital preservation.

Q: How does this strategy differ from other absolute return oriented liquid strategies

A: Based on a comparison of return and risk objectives, the Global Libor Plus Bond Strategy fits between traditional money market investments and the category of so-called “liquid alternative” or “unconstrained” bond strategies.

Relative to traditional money market strategies, it is managed to a moderately higher risk and return profile. As such, the strategy invests across a wider range of fixed income securities than money market strategies. It may be more exposed to risks such as interest rates and credit; however, the strategy will focus on providing daily liquidity and preserving capital over rolling annual periods, features that are common with traditional money market strategies. In that sense, investors may view the new strategy as being one step out from money market instruments on the risk and return spectrum.

Conversely, the strategy has a more moderate risk/return objective than “liquid alternatives” or “unconstrained bond” categories. In practice, on average the Global Libor Plus Strategy tilts toward the higher quality part of global fixed income markets. With a focus on capital preservation, it is designed to provide lower overall volatility and a higher propensity to withstand market shocks. The similarity, of course, is that the strategy will be managed dynamically and flexibly and will benefit from a global investment opportunity set.

Q: What is the portfolio management team’s expertise in this particular strategy?

A: The strategy is managed by a highly seasoned and proven team of fixed income portfolio managers: Marc Seidner, CIO for non-traditional strategies and a member of the Investment Committee; Mike Amey, head of sterling portfolios and a member of the European Portfolio Committee; and Mohit Mittal, a senior portfolio manager for investment grade credit, total return and unconstrained bond portfolios and a member of the American Portfolio Committee. Collectively, they have almost 60 years of investment experience.

This wealth of experience gives the team two key advantages. First, it makes for a powerful combination of global, sector and bottom-up expertise. Being based in London, New York and Newport Beach, they provide a global perspective to the strategy and the flexibility to take advantage of investment opportunities across a broad range of fixed income markets. Second, this breadth and experience is key to portfolio construction in terms of overall risk management, sizing and scaling key investment positions. Even if we get most of our views correct, it is imperative that we size our positions and manage the overall risk of the portfolio appropriately so the strategy can potentially achieve its dual objectives of absolute returns and capital preservation over rolling annual periods. Having been through many market cycles and macro regimes, the group is particularly attuned to this integral component of the strategy.

All of the managers contribute to and benefit from the time-tested PIMCO investment process and participate regularly in the regional and global investment committees. In addition, there is ongoing daily dialogue specific to this strategy and a formal weekly call to discuss market opportunities, portfolio construction and positioning.

Q: As you look to 2016, what are the expected investment opportunities for this strategy?

A: In terms of portfolio positioning, we expect to maintain positive portfolio duration but towards the lower end of the permitted range. This view reflects current tight valuations, potential for some upward pressure in U.S. and global interest rates on expectations the Fed continues to tighten monetary policy and generally low term premia across the interest rate curves in the U.S. and other developed markets. We find U.S. Treasury Inflation-Protected Securities (TIPS) attractive because this segment offers reasonable real yields coupled with low inflation expectations, despite strong underlying U.S. core inflation dynamics.

In a world of fair-to-expensive interest rate valuations, the credit risk premium looks reasonably attractive. Outside of the energy sectors, credit fundamentals are solid. We see opportunities across short-dated investment grade, high yield and senior bank debt in the U.S. and in bank capital in Europe. As the year progresses, we will stand ready to add to ex energy credit risk to take advantage of any periods of market weakness. On currencies, we see the potential for the U.S. dollar to continue to appreciate, particularly versus a basket of Asian emerging market currencies. We expect further policy divergence as the Fed tightens, and we believe there is a good probability that China’s currency depreciates more than forward markets have priced in. Over the cyclical horizon, we expect to maintain an overall cautious stance on emerging markets interest rate and credit risk. However, we will look for select opportunities and may make modest opportunistic allocations if we see any significant market dislocations.