FPA New Income Q4 Conference Call TranscriptVW Staff
FPA 2013 Q4 New Income Fund Conference Call
And certainly see comments from Steve Romick’s call to FPA Crescent shareholders here.
Since its inception in 1984, the goal of FPA New Income and Managed Accounts under the FPA Absolute Fixed Income Strategy has been one of generating current income and long-term total return. We strive to produce a positive absolute return every calendar year. To achieve this, the team employs a total return strategy that invests in fixed income securities with a focus on income, appreciation, and capital preservation. Market opportunity will dictate emphasis across these three areas.
We are proud to have been able to achieve this goal and that we have earned a positive absolute return in each calendar year, with considerably less portfolio volatility than the market since the inception of this Strategy. We hope to continue this positive trend.
It is my pleasure to introduce Tom Atteberry, a partner at FPA who joined the firm in 1997. Tom has been Manager of the FPA Absolute Fixed Income separate accounts since 2002, and Co-Manager of FPA New Income since 2004 and sole Manager since 2010. Joining Tom today from the Investment Team are analysts Julian Mann, Melinda Newman Abhi Patwardhan, and Naz Pajoom.
Over to you, Tom.
Tom: Thank you, and thank you, everyone, for joining us this afternoon. So what I want to cover today is really… as we look to the beginning of 2014, there’s a consensus expectation that GDP growth and economic growth in general is just going to be better in 2014 versus 2013. And we’re going to discuss a couple of areas that we think have a potential to make that reality fall short of those expectations. We’ll follow up… Melinda’s going to sort of carry through and look at it from the aspect of the corporate credit market, and then we’re going to conclude with having Abhi and Julian discuss changes to the portfolio at the end and during the fourth quarter, and to look at performance attribution for 2013.
As a frame of reference and quick sort of outline of objectives and how we manage the portfolio before we get into this, let’s keep in mind we’re looking for a positive return in a calendar year period. We’ve accomplished that for the last 29 consecutive years. Over a five-year period, we’re looking to get a CPI of plus 100. We have accomplished that 23 of the… so in 24 periods that that would encompass. Sadly this last five years is where we fell short in that area.
We are benchmark-agnostic. We’re value investors from a philosophical standpoint. This is a portfolio that will manage its duration very actively. Everything we have—whether it’s the portfolio itself or its holdings—we will stress test rather rigorously to make sure they pass our criteria. And then we will limit credit risks to being no more than 25% of the portfolio. And we would define credit risk as single-A and below.
So to start out, I thought we’d look at sort of the scorecard for 2013, which is on the upper right-hand corner. The portfolio had a return of 67 basis points, looking at the broader index of the aggregate, which was down a little over two. The short aggregate—the 1–3 year—was only up 64 basis points, and CPI was up 2.5% if you include that 100 basis points of above it. Year-over-year CPI was obviously 1.5.
Some of our peer groups that we find ourselves competing with… the nontraditional bond funds were only up about 44 basis points, short-term bond funds up 43, and the intermediate category was down 1.38%. On the back of this presentation, around page 36, there’s a longer look at… it’s sort of our performance in the standardized format you’d all be used to, looking back over longer periods of time.
And then on the bottom looking through sort of a downside protection and quick way of looking at it, we’ve taking our yield-to-worst, which at the end of the year was 2.01%, and our effective duration of 1.63. And by making that sort of a calculation, we find out we can take roughly 123 basis points of rise in rates before the portfolio starts to get itself to a zero total return. And this is significantly better than either of the indices of the Aggregate Index or the 1–3 year.
I want to review quantitative easing. There’s some potential long-term costs to what we’ve been undertaking from the Fed these last several years, the first four of which we have discussed in various conference calls and writings in the past. But I do draw your attention to the one on the bottom, which is the income and wealth distribution distortions we’re seeing. We’re going to discuss that today and focus on that because we think it’ll impact GDP growth and corporate credit as we go forward.
As a backdrop, let’s just take a look at where central bank balance sheets have been and what they’ve been doing. It’s our view that a significant driver of all global asset prices has been a very aggressive and unprecedented move by the global central banks to increase their balance sheets. The lower left-hand corner is a look at sort of all of the major central banks of the world. And you look at that and you look at the red line, and you realize between 2000 and 2008 the world central banks sort of went from roughly a $3-trillion size to a $6-trillion size in about eight years. However, since ’08, they’ve gone from $6 to $17 trillion. So in a much shorter period of time, they’ve almost tripled in their size.
The graph on the right is the U.S. monetary base. So this is currency in coins and reserves. And we put three circles around what are the dramatic moves of QE1, 2, and 3. Where at the start of that process it was about a $750-billion size, it’s now over $3.5 trillion. So this is a massive undertaking of injecting money or monetary-type assets into the system in an attempt to get things moving.
On the next slide we’re looking at what the Fed outlined in 2013 at its closing meeting in December… is how it felt it was going to define tapering. And this is a schedule looking at sort of a systematic way in which the Fed was going to taper its asset purchases of either Treasuries or mortgages. Just a couple hours ago, they reconfirmed that again they’re going to reduce it by $10 billion a month. So they’re going to go from $75 to $65 billion.
There’s a couple reasons for this. One of them is it’s sort of the incremental amount of Treasuries being issued, which is sort of a function of the federal deficit. It’s declaiming—and we’ll show a slide later on that details that—and mortgage issuance is declining as well. So some of this is just to keep them at sort of their current pace of participation in the marketplace.
Looking forward, though, if we take that taper schedule that it looks like they’re going to maintain for a period of time and subject it to the balance sheet they have today, at the end of this year, the Fed’s balance sheet will look slightly over $4 trillion. It’s right now about $3.7 trillion. So there’s a tremendous amount of continued growth that is going to occur in this balance sheet as we move forward through 2014.
How’s this impacting the markets? Where has it really been a positive? And this is a graph looking at U.S. household net worth. The blue bars represent that net worth. And at the end of 2013—the latest data for 2013—that net worth is at a new high. Well, it got there for a couple of reasons: stock prices have increased, housing prices have increased, and debt at the household level has decreased. You look at the red line, and that’s just plotting the year-over-year change. It was a little over 10% so far for this year, which is at the high end. So the Fed has been very successful at getting certain asset prices to go up in value.
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