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Laird Landmann - Group Managing Director - TCW. with permission.

TCW may not be a fund group overly familiar to European investors, despite forming in 1971. It does, however, enjoy considerable goodwill in the U.S. and the Middle East, especially following its acquisition of Metropolitan West Asset Management (MetWest) in 2010.

Today, TCW is looking to broaden its franchise into Europe, having launched a number of Luxembourg-based feeders into some of its successful U.S. fund range. “We own the second largest bond fund in the U.S., have a 20-year track record, and manage nearly $200 billion of assets,” states Laird Landmann. “We strongly believe our product suite is attractive to European-based investors.”

Fund Philosophy and Process

TCW has a long-established fundamental value-driven approach. This is underpinned by the belief of mean-reversion of securities following technical deviations and the identification of “persistent” structural inefficiencies of the bond market. These include rating anomalies, market segmentation, and policy-maker intervention.

TCW MetWest Total Return Bond Fund follows the same securities selection processes as all other TCW funds. It is a broad-based bond fund that contains nearly 500 holdings and is benchmarked to the Barclays U.S. Aggregate Bond Index, investing almost exclusively in U.S.-based issuance. It forms part of TCW's “core” fund offering investing predominantly in A-rated securities or higher and restricting high-yield content to a 20% maximum. It doesn’t seek to take huge positions on duration, having only a one-year band either side of the benchmark.

Macro-economic analysis forms an integral part of the TCW process, and the group has four generalist portfolio managers who examine long-term economic outlook and interest rate positioning. However, this is undertaken to the extent of contextualizing the fair value of the securities formed from the fundamental analysis. “Humankind has a predilection to make sense out of chaos, but predicting macro events is unproductive,” states Mr. Landmann. “It's an interesting narrative but doesn't return a lot of alpha.”

Current Positioning

The fund is currently defensively positioned, with the highest holdings (29%) in U.S. Treasuries and U.S. agencies (26%). This is on the basis that TCW believes the U.S. credit market to be late-cycle. “Companies have used debt to buy back stock or undertake M&A, not invest in capex,” states Mr. Landmann. “This is not a healthy sign for the credit cycle. Leverage is rising, incomes are dropping, and risk is increasing in spread assets.”

Exhibit 1. Three year performance of TCW MetWest Total Return Bond Fund v benchmark & peer group (to July 31, 2016 in USD)

2016 09 02 Exhibit 1 Performance

Source: Thomson Reuters Lipper, Lipper for Investment Management

The agencies position is currently providing the yield-kicker to the fund and is an area where TCW sees some relative value. “Ratings agencies are giving some of these lines a bit of flack,” says Mr. Landmann. “But you’re getting government-backed assets at Libor plus 200.” Mr. Landmann also likes non-agency mortgages. “These are deleveraging as homeowners pay down their mortgages. Even if house prices don’t rise any further, you are sitting on high-quality mortgage pools.”

Mr. Landmann also like U.S. banks, with his favored issuers currently being Bank of America, Citibank, and Wells Fargo.

On duration Mr. Landmann is also cautious: “The Fed is leading to a rate hike this year. We don't think the level of real rates merits a substantial risk position to duration, so we are slightly short there.”

Keeping Some Powder Dry

Mr. Landmann is looking to increase exposure to investment-grade credit, but he is not prepared to do so until valuations lower. “We are on a risk budget diet,” Mr. Landmann explains. “Investors have to diet now if they want to feast later.” TCW picked up a small amount of credit during the market revaluations in February and March of this year, but Mr. Landmann considers a more material rotation toward risk to be most likely in the next 12-18 months.

Exhibit 2. Ten year risk/ return of Metropolitan West Total Return Fund (to July 31,2016 in USD)

2016 09 02 Exhibit 2 risk return

Source: Thomson Reuters Lipper, Lipper for Investment Management

Outlook

Despite overall caution with respect to valuations, TCW believes the U.S. bond market is in good health. Corporate issuance has been buoyant, with some $88 billion of issuance in the first week of August 2016 globally, and substantial demand from non-U.S. institutions and clients turning to the U.S. for yield are providing support.

With respect to the upcoming U.S. presidential election, Mr. Landmann sees both candidates likely to want to undertake fiscal stimulus, which would put a lower bound on U.S. interest rates. However, he believes a “wild card” for Donald Trump might be the desire to change the leadership of the Federal Reserve or issue “helicopter money,” which may unsettle the market.

Performance

The performance of the U.S. master version of this fund has a very strong risk-adjusted track record, scoring highly across all Lipper Leader categories (see Exhibit 3. below); it collected a U.S. Lipper Fund Award in 2016. Over ten years MetWest Total Return Bond Fund sits in the favored “northwest” quadrant in its classification’s risk/return profile (see Exhibit 2. above).

Exhibit 3. Lipper Leaders Profile of Metropolitan West Total Return Fund (to July 2016 for U.S.)

2016 09 02 Exhibit 3 Lipper Ratings

Source: Thomson Reuters Lipper, Lipper for Investment Management

The European version of this fund, identically managed but with its shorter performance history, has tracked its benchmark over the last three years in what Mr. Landmann describes as “one of the more challenging periods our style typically faces.” However, it has still done well in its peer Lipper Global-Bond USD category over three years, clearing by over 5 percentage points in U.S.-dollar terms (see Exhibit 1. above).

Conclusion

TCW is a well-resourced and highly credible bond house and in the U.S. could be referred to as a “big hitter.” Although its reputation in Europe might not be well known, its pedigree will likely impress.

This is a fund for the more risk-averse and larger retail or institutional investor and certainly one disposed to U.S. securities. Mr. Landmann makes it clear that a move into the European market does not represent a move away from TCW’s core value proposition of expertise in U.S. debt.

Jake Moeller met with Laird Landmann, Group Managing Director & Co-Director of Fixed Income–MetWest, on May 24, 2016, and August 17, 2016.

Jake Moeller

Jake joined Thomson Reuters Lipper in 2013 as Head of UK & Ireland Research. He has over eighteen years experience as an expert in mutual fund research, fund-of-funds portfolio management and asset allocation strategies. He spent six years managing the fund-of-funds suite and guided fund platform at AIG and has been a mutual fund research specialist for Lloyds Banking Group, Towry and the Commonwealth Bank of Australia. Jake is a Chartered Member of the Chartered Institute of Securities & Investment (CISI) and a Senior Fellow of the Financial Services Institute of Australasia (Finsia).

Website: lipperalpha.financial.thomsonreuters.com/contributor/jake-moeller/

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