TCPNX – Q3 2017 Commentary
Touchstone Total Return Bond Fund continues to be a steady, quality-driven strategy that outpaces the index on a risk adjusted basis over time. During the third quarter, the fund’s performance was in line with the benchmark, and TCPNX has outperformed on the year. The team believes the fund is well positioned and maintains a discipline that properly balances risk and return objectives for the current market environment.
Market Overview:
– A strong series of economic data helped temper some of the broad trouble news in Q3
o GDP growth rebounded
o Job growth continued to be strong
o Optimism remained high
– Data helped drives measures of market volatility to record lows despite geopolitical threats and hurricane landfalls
– Long term U.S. Treasury rates declined as Congressional debate over debt ceiling and government funding came into focus in the second half of the quarter
o While these decisions have been delayed until December, tax reform has entered a “now or never” moment
– Though the Fed left rates unchanged during the quarter, Fed meeting did have significance
o Fed laid out plans for reducing its balance sheet
o October was slated as start date to begin unwinding
o The move was anticipated by investors and had little effect on rates
– Yield curve flattened as short term interest rates increased more than long term
– The Agg posted positive returns and outperformed U.S. Treasuries
o Steady economic growth environment coupled with investor demand for bonds provided a favorable backdrop for credit sensitive securities
Performance Overview:
– TCPNX performed in line with the benchmark during the quarter
– Combination of low interest rates and steady economic growth helped support the demand for spread products within the bond market
o This was primary tailwind to fund performance during the quarter
– Slight overweight to credit was a positive to performance as sector continued to experience strong demand
o However, the fund’s preference for more stable industries within U.S. credit slightly offset this benefit
– Low volatility market environment that helped drive Single-Family MBS performance
o Created a headwind to performance due to the fund’s underweight allocation
– A notable change in the fund’s positioning was a reduced weight to CMBS
o The fund’s pre-financial crisis CMBS holding continued to mature at a fast pace
o Created a short term headwind for the fund as the securities provided a yield advantage
– The fund’s duration remained approximately matched to the benchmark effectively making interest rate risk the same as the Agg
Market Outlook:
– It has become more evident that the Fed may gradually reduce the size of its holdings
o Holdings are almost entirely devoted to U.S. Treasuries and Single-Family MBS
– If the Fed is no longer buying, these sectors could experience relative underperformance
o If this were to take place the fund would benefit from weakness experience by these sectors
– Commercial real estate and CMBS markets have recently been under scrutiny
o We believe this could benefit the fund in two ways:
o Fund’s CMBS holdings differ from the benchmark as holdings are pre-financial crisis securities with a larger focus on housing and office space
o Demand for CMBS debt has lost ground to Agency Multi-Family MBS
– The team believes an event that creates a surge in demand for Treasuries could be a cause for concern given the fund’s overweight to spread products and slight overweight to credit
o However, this type of exceptional demand for Treasuries has historically been short-lived
– The team believes the fund is positioned well and maintains a discipline that balances risk and return objectives
