ClearRock's Eshman: Pick Yield Carefully
July 26, 2012
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With all the uncertainty coursing through global markets, it's not surprising to see so many investors flocking to the relative safety of fixed-income ETFs. But as investors look for yield when U.S. Treasurys are yielding very little, it's become increasingly important to understand the differences between bonds and bondlike securities, ClearRock Capital's co-founder Mark Eshman said in an interview with IndexUniverse.com.
Eshman told our Correspondent Cinthia Murphy, among other things, that he's a big believer in high-yield debt right now, and that in all the clutter, there are some great value opportunities in fixed income.
Murphy: Tell me a little bit about your business.
Eshman: We are an asset management firm. We are RIAs and we manage about $310 million in assets in four proprietary, all-ETF model portfolios. When we started this company, we asked clients what they were looking for in an advisory relationship, and they said preservation of capital and slow growth over time. No one actually believed that an advisor could deliver 20-30 percent returns in a year every year.
In that sense, there’s nothing more important in a portfolio than asset allocation, so that’s what we did: We designed broadly diversified asset allocation portfolios and populated them with ETFs. They are tactically managed with a macroeconomic overlay. By that I mean we look at macroeconomic indicators and shift portfolio holdings maybe three or four times a year. Because we focus on the big picture and asset allocation, we don’t worry about quarterly earnings, and the daily noise of CNBC that can cloud sound investment judgment. We take a broader view.
Murphy: Flight to safety has led a lot of investors to short-term debt of countries like the U.S., Germany, the Netherlands and France, especially after Europe's new round of quantitative easing. In some cases, we’ve even seen negative yields. It seems investors are willing to pay up for safety. What do you make of that?
Eshman: Flight to safety happens in times of extreme uncertainty, and we are in a period of extreme uncertainty. Investors are flocking to fixed income, and Treasurys are at historically low yields. But I think what people miss here is the fact that, yes, investors are over-allocating to fixed income right now, but they are not creating a portfolio that is 100 percent allocated to fixed income. In our own income portfolios, we are about 75 percent debt to 25 percent equities in terms of allocation.
The world is an uncertain place today, but uncertainty also creates a value vacuum—there are always opportunities out there, even in uncertain environments. There are definitely value opportunities in the fixed-income market right now that were not there before interest rates plummeted.
Murphy: Such as?
Eshman: Such as high-yield bonds, for example. Historically, they’ve traded at a 300 to 400 basis point spread over Treasurys, and at the peak of the subprime crisis around late 2008, early 2009, that spread hit at over 2,000 basis points. Now, we are back to the 400-600 basis point range, so when we get towards the top of that range, we get more aggressive on our exposure. It’s a value opportunity.
We use a barbell approach in our portfolios, where 50 percent of the portfolio consists of securities like short-term corporates, Treasurys and TIPS; and the other 50 percent is where the attractive values are, such as junk bonds, senior secured bank loans, emerging market sovereign debt and high-quality corporate bonds. In the end, you are getting 4-5 percent yield and have some capital appreciation rather than getting 0-1 percent yield by going all Treasurys.