LYCEUM-NORTHWESTERN UNIVERSITY
Tapuac District, Dagupan City
College of Business Education
Bond Portfolio
Management
Strategies
Presented By:
Michelle Q. Andres
Marypearl Navarro
Rogene Manangan
Kimberly Calaje
Almira Abalos
Presented To:
Mr. Garry Romano
Bond Portfolio Management Strategies
Bond Portfolio Management Strategies
Bond Portfolio Performance Style and Strategy
Bond Portfolio Performance
Fixed-income portfolios generally produce both less return
and less volatility than found in other asset classes (e.g.,
domestic equity, foreign equity)
shows this in the examination of the investment
performance of different long-term securities over the 21year time horizon
The low historical correlation between fixed-income and
equity securitiesReilly and Wright (2004) calculated this
to be 0.27has made bond portfolios an excellent tool for
diversifying risk
Bond Portfolio Style
The investment style of a bond portfolio can be
summarized by its two most important characteristics:
credit quality and interest rate sensitivity
The average credit quality of the portfolio can be classified
as high, medium, and low grades
The interest rate sensitivity of the bond portfolio can be
separated as short-term, intermediate-term, and long-term
Bond Portfolio Management Strategies
Bond Portfolio Strategies
Passive Portfolio Strategies
Active Management Strategies
Core-plus Management Strategy
Matched-funding Techniques
Contingent Procedure (Structured Active Management)
5 Types of Strategies
1. Passive Management Strategies
A style of management associated with mutual
and exchange-traded funds (ETF) where a fund's portfolio
mirrors a market index. Passive management is the
opposite of active management in which a fund's
manager(s) attempt to beat the market with various
investing strategies and buying/selling decisions of a
portfolio's securities.
a. Buy and Hold
- A manager selects a portfolio of bonds based on the
objectives and constraints of the client with the
intent of holding these bonds to maturity
Bond Portfolio Management Strategies
Can by modified by trading into more desirable
positions
b. Indexing
- The objective is to construct a portfolio of bonds that
-
will track the performance of a bond index
Performance analysis involves examining tracking
error for differences between portfolio performance
and index performance
2. Active Management Strategies
Active management strategies attempt to beat the market
Mostly the success or failure is going to come from the
ability to accurately forecast future interest rates
Active Strategy Attributes
Scalability
Sustainability
Risk-adjusted performance
Extreme values
a. Interest
-
Rate Anticipation
Risky strategy relying on uncertain forecasts
Ladder strategy staggers maturities
Barbell strategy splits funds between short duration
and long duration securities
b. Valuation Analysis
- The portfolio manager attempts to select bonds
based on their intrinsic value
c. Credit Analysis
- Involves detailed analysis of the bond issuer to
determine expected changes in its default risk
d. Yield Spread Analysis
Bond Portfolio Management Strategies
Assumes normal relationships exist between the
yields for bonds in alternative sectors
e. Bond swaps
- Involve
liquidating
a
current
position
and
simultaneously buying a different issue in its place
with similar attributes but having a chance for
improved return
Bond Swaps Types
Pure yield pickup swap
- Swapping low-coupon bonds into higher coupon
bonds
Substitution swap
- Swapping a seemingly identical bond for one that is
currently thought to be undervalued
Tax swap
-
Swap in order to manage tax liability (taxable &
munis)
Swap strategies and market-efficiency
- Bond swaps by their nature
suggest
market
inefficiency
f. Active Global Bond Investing
- An active approach
to
global
fixed-income
management must consider the following three
interrelated factors
a. The local economy in each country including the effects
of domestic and international demand
b. The impact of total demand and domestic monetary
policy on inflation and interest rates
c. The effect of the economy, inflation, and interest rates
on the exchange rates among countries
3. Core-Plus Management Strategies
- A combination of passive and active styles ( a form of
-
enhanced indexing)
A large, significant part of the portfolio is passively
managed in one of two sectors:
a. The U.S. aggregate sector, which includes mortgagebacked and asset-backed securities
b. The U.S. Government/Corporate sector alone
- The rest of the portfolio is actively managed
c. Often focused on high yield bonds, foreign bonds,
emerging market debt
Bond Portfolio Management Strategies
d. Diversification effects help to manage risks
4. Matched-Funding Strategies
a. Dedicated Portfolios
- Designing portfolios that will service liabilities
- Exact cash match
Conservative strategy, matching portfolio cash flows
to needs for cash
Useful for sinking funds and maturing principal
payments
- Dedication with reinvestment
Does not require exact cash flow match with liability
stream
Great choices, flexibility can aid in generating higher
returns with lower costs
b. Immunization Strategies
- The process is intended to eliminate interest rate risk
that includes:
Price Risk
Coupon Reinvestment Risk
- A portfolio manager (after client consultation) may
decide that the optimal strategy is to immunize the
-
portfolio from interest rate changes
The immunization techniques attempt to derive a
specified rate of return during a given investment
horizon regardless of what happens to market
interest rates
c. Classical Immunization
- Immunize a portfolio from interest rate risk by
keeping the portfolio duration equal to the
-
investment horizon
Duration strategy superior to a strategy based only a
maturity since duration considers both sources of
interest rate risk
An immunized portfolio requires frequent rebalancing
because the modified duration of the portfolio always
should be equal to the remaining time horizon
d. Difficulties in Maintaining Immunization Strategy
- Rebalancing required as duration declines more
slowly than term to maturity
Bond Portfolio Management Strategies
Modified duration changes with a change in market
interest rates
Yield curves shift
e. Horizon matching
- Combination of cash-matching dedication and
-
immunization
Important decision is the length of the horizon period
With multiple cash needs over specified time periods,
can duration-match for the time periods, while cashmatching within each time period
5. Contingent and Structured Strategies
a. Contingent procedures for managing bond portfolios are a
form of what has come to be called structured active
management
b. Contingent Immunization
- Duration of portfolio must be maintained at the
-
horizon value
Cushion spread is potential return below the current
market return
Safety margin is a portfolio value above the required
value
Trigger point refers to the minimum return that will
stop active portfolio management
