What is International StocksPLUS®?
StocksPLUS, a unique and innovative suite of equity management strategies first introduced by PIMCO in 1986, is designed to outperform a given benchmark equity index and, at the same time, provide a very similar risk level to that of the benchmark. Typically referred to as an “enhanced index” strategy, StocksPLUS seeks to provide the best of what passive indexing and active management each attempt to deliver.
Similar to most passive index strategies, the equity market exposure in a StocksPLUS portfolio is designed to be identical to that of the benchmark index. However, unlike passive index strategies, StocksPLUS endeavors to provide investors with excess returns.
What makes StocksPLUS unique? The strategy combines PIMCO’s expertise in global fixed-income management with the merits of its “best-of-both worlds” construction, which entails obtaining the equity exposure via derivatives that are collateralized by a fixed income portfolio. Because the fixed income portfolio tends to have both a low correlation to equities and a focus on capital preservation, the combination gives StocksPLUS the potential to mitigate the volatility of the equity exposure amid changing market conditions.
International StocksPLUS offers portfolios indexed to the international benchmarks, including the MSCI EAFE, for investors looking to diversity their equity allocations outside of the United States.
| Applications for International StocksPLUS |
| We believe the characteristics of the International StocksPLUS strategy make the approach an attractive solution for the core equity component of a client’s asset allocation. The International StocksPLUS strategy seeks a high correlation with the underlying equity index benchmark and a standard deviation of monthly returns similar to that of the index, and also seeks to provide excess returns over the index. |
| Investment Philosophy for StocksPLUS |
| The International StocksPLUS investment philosophy is based on our belief that equity index futures offer an efficient, relatively low-cost way for investors to obtain equity index exposure. Much like an investor who replicates a given equity index by purchasing all of the stocks in the index, an investor who purchases equity index futures should receive the returns provided by the index. However, while stock purchases generally require payment of the entire cash investment amount in exchange for the stock index exposure, the cash outlay required to gain exposure to a given equity index using futures contracts is generally quite low (approximately 5% – 10% of the total contract value for MSCI EAFE futures contracts, as an example). This allows the remaining cash to be invested in a fixed income portfolio. Of course, because the investor is not required to pay for the entire equity exposure upfront, as is the case with most “buy now and pay later” arrangements, there is an interest rate cost associated with equity index ownership using futures and/or swaps. Equity index futures provide the total return of the equity index in exchange for the payment of a short-term money market interest rate that is embedded in the price of the futures contract. Therefore, if the cash retained with the equity index futures purchase is deposited in a short-term money market account that returns a rate equal to the interest rate paid, in theory the investor will receive the total return of the equity index. However, if PIMCO is able to actively manage the cash and consistently achieve returns higher than the money market interest rate paid, then International StocksPLUS should be able to outperform the equity index on a consistent basis.
In some cases, total return swaps may provide a largely equivalent way to obtain equity exposure. Both total return index swaps and index futures contracts generally require very little or no cash required at the time the equity exposure is obtained and the investor subsequently receives the total return of the equity index in exchange for the payment of a money market based interest rate (generally LIBOR +/- a spread). |
| Sources of Added Value |
| PIMCO looks to multiple sources in an effort to outperform the short-term money market interest rate embedded in the price of equity index futures and/or swap contracts. Money market investors are generally seeking perfect liquidity and principal preservation over very short time periods, and in exchange, are willing to accept materially lower yields and expected returns than the yield/expected return provided by other fixed income instruments. Conversely, equity investors tend to have much longer time horizons. As a result of this longer investor time horizon, combined with PIMCO’s broad, deep, active fixed income management skill set, we think that it is appropriate to hold a fixed income portfolio of high quality securities, including securities that may provide attractive yield premiums relative to money market rates. We believe that our active fixed income skill set is key to success in the International StocksPLUS strategy – a skill set which we have carefully honed over our nearly four decade history as a fixed income manager. |
| Important Benchmark—Relative Risk / Return Considerations |
| The use of equity index futures and/or swaps provides an important benchmark-relative risk control. This is because index futures and swaps provide the returns of the underlying equity index. Unlike active or enhanced index strategies that seek to generate excess returns by altering the stock holdings and/or weights relative to the index, International StocksPLUS seeks to achieve its excess return without incurring any non-benchmark equity market risk. Instead, the International StocksPLUS strategy effectively seeks to enhance the yield of the index and we believe that the magnitude of risk contained in the yield component of the fixed income portfolio relative to a money market instrument-only portfolio is significantly less than individual stock price risk. |