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Michael A. Gomez
Of course, emerging markets can be more volatile than developed markets, due to smaller market size, different reporting standards and political instability, among other factors. We seek to moderate some of these risks through our rigorous investment process with risk assessment at the portfolio, country and individual security levels. Aggregate risk exposures are identified, evaluated and calibrated to achieve a well-diversified portfolio, aligned with our fundamental views. Q: Could you expand on the differences between external sovereign and local bonds, as well as the market for corporates?Gomez: The market for external sovereign bonds has matured significantly such that they could almost be considered plain vanilla credit investments, in our opinion. In some ways that is beneficial, but it also means the first mover advantage no longer exists, and market pricing more fully reflects this plain vanilla nature.Local bond markets, however, continue to be highly differentiated in terms of fundamentals and require the investor to navigate a diverse set of custodial, tax and regulatory issues. However, these issues produce market inefficiencies and generally mean higher yields. We believe that over time PIMCO can exploit these inefficiencies for our clients, as country fundamentals continue to improve and these markets increasingly become more transparent.Separately, while many investors still look at EM corporates as an extension of EM sovereign exposure, we have long argued that EM corporates should also be contrasted with the global corporate credit universe. Whether relative to EM sovereign or developed market corporate debt, we believe EM corporate debt offers a compelling combination of higher yield and still strong credit metrics. Q: Could you discuss your investment process and philosophy? How will you manage asset allocation? Gomez: We incorporate both top-down and bottom-up considerations as we approach portfolio construction, which will largely be implemented through investments in PIMCO’s existing EM fixed income strategies.The nuts and bolts of the process begin with a target asset allocation across the eligible EM fixed income asset classes based on our preferences along the lines of duration, currency and credit. These targets are then translated into allocations among PIMCO strategies that invest in various portions of EM, such as external debt, local debt and corporates. Within each asset class, we then identify additional opportunities for country and security selection designed to add value. Finally, we layer in additional positions designed to amplify or mitigate risk factors that may result from our allocations to the underlying EM debt strategies, and to ensure that the portfolio in its entirety is consistent with our views.Q: What is your outlook on emerging markets bonds and currencies, and how will you invest considering that outlook?Gomez: This is a group of countries, generally speaking, that is growing more quickly, has cleaner balance sheets (i.e., less debt), and has more policy flexibility than the developed world, and yet, investors get paid more to lend to these countries than to developed economies.That being said, because of their size and because they still have financial markets that are less robust and mature, they are still very much influenced by the growth and financial dynamics of the developed world.Our sense is that the very strong tailwind that has come into financial markets from the long-lived duration rally in developed market rates is likely close to its end. We want to make sure we are positioning this strategy with a more defensive stance with respect to interest rates, so, if U.S. Treasury yields back up significantly, our clients are shielded. This will likely mean a more defensive stance in the traditional sovereign external debt portion of the strategy.At the same time, we would tend to emphasize local markets within EM that tend to exhibit higher nominal yields, positive real yields and steeper curves with attractive carry and roll-down characteristics. The currency component is also appealing given the starting point of undervaluation and the negative effects of quantitative easing on reserve currencies in the developed world.In the corporate sector, we see abundant opportunities to pick up yield in shorter duration, three- to five-year corporate bonds where issuer credit fundamentals are sound.Q: Could you discuss PIMCO’s resources dedicated to emerging markets?Gomez: This strategy is designed to target all facets of the emerging markets fixed income opportunity set, so it requires a deep and experienced global team. Our 17 emerging markets portfolio managers located in Munich, Singapore, Hong Kong and Newport Beach, as well as our nearly 50 global credit analysts across the world (as of 31 January), provide on-the-ground research capabilities 24 hours a day.Risk management is a critical additional factor for success, especially as we start combining various portions of EM with their divergent risk exposures. We have devoted significant resources to understanding and parsing out risks so that we can construct portfolios that accurately capture our views and to avoid exposing investors to unanticipated volatility.Q: How does this strategy differ from PIMCO’s other emerging-markets-focused strategies?Gomez: This strategy is designed to be our most holistic approach to investing in emerging markets fixed income. In contrast to our other strategies that are focused on a single portion of EM, Spectrum allows clients to make a single, strategic allocation to EM whereby PIMCO will then undertake cyclical and tactical shifts on their behalf across the universe of emerging markets debt opportunities.Q: What role might this strategy play in a client’s portfolio?Gomez: We expect to see more clients looking to broaden their fixed income exposure beyond the developed world as they seek higher levels of income and total return from their fixed income strategies.Overall, this strategy is designed to provide investors with a comprehensive asset allocation solution for investing in EM fixed income. It can thus serve as a client’s entire EM debt allocation. Alternatively, Spectrum can serve as a complement for an investor already allocated to discrete portions of EM.
No part of this material may be reproduced in any form, or referred to in any other publication, without express written permission. Pacific Investment Management Company LLC, 650 Newport Center Drive, Newport Beach, CA 92660, 800-387-4626. ©2014, PIMCO.
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