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A Strategy for Managing Bond Portfolios in a Rising Rate Environment

Nearly 10 years removed from the Great Recession, the U.S. economy is solid, and the need for monetary stimulus has diminished — especially in light of the Trump tax cuts. The Federal Reserve is now working to withdraw the stimuli — zero interest rates and quantitative easing — that not only propped up the U.S. economy in the immediate aftermath of the financial crisis but also helped to drive financial markets to record highs in the years following.

An obvious step in this return to normalcy involves raising the Federal Funds rate. Starting with a single increase in 2015, the Fed has gradually accelerated its pace of rate hikes in an attempt to prevent the economy from overheating. Long-term rates have also risen in anticipation of potentially greater economic growth and higher inflation. These increases, however, can pose a significant challenge for fixed income investors.

Knowing the Fed is currently telegraphing additional rate hikes through at least 2019, there are three proactive steps investors may want to consider to manage the impact of interest rate risk on their fixed income portfolios.

  1. Look for expanded opportunity sets.

  2. The global bond market has undergone considerable growth and maturation over the past 15 years — in fact, the United States now accounts for only 38% of the total global fixed income universe. Yet surprisingly, many investor portfolios have little or no exposure to global bonds. By utilizing a U.S. core bond fund as their only fixed income holding, these investors miss more than half of the investment opportunities afforded by the global bond market.

    A strategic allocation to global bonds may complement an investor’s U.S. core bond fund holdings by providing the following potential opportunities:

    • Diversification — The addition of global bonds reduces the fixed income portfolio’s dependence on only one market environment — one government, one central bank, one economy — for return generation and income production may be suitable.
    • Enhanced opportunity set — Global bond exposure dramatically broadens both the breadth and depth of investment opportunities available to investors, which can help to potentially generate returns while also seeking to reduce risk.
    • Multiple sources of return — Generally global bonds have historically provided higher levels of income than U.S. investment grade bonds. Moreover, exposure to currencies other than the U.S. dollar may offer greater potential to boost returns within a portfolio.

  3. Avoid simply replicating benchmark performance.
  4. At GuideStone®, we believe the benefits of global bonds are best realized via active management. Fixed income benchmarks — which passive funds seek to replicate — are typically less efficient and less investable than their equity counterparts. Moreover, many of these benchmarks are capitalization-weighted, meaning the companies with the highest amounts of outstanding debt have the greatest influence on benchmark composition and performance. We believe the negotiated nature of bond trading favors skilled active managers that can identify and exploit inefficiencies in the global bond market.

    Fund Lipper Category 1-Year Rank 3-Year Rank 5-Year Rank 10-Year Rank
    GuideStone Global Bond Fund — Investor shares Global Income 120/191
    (3rd Quartile)
    41/173
    (1st Quartile)
    22/159
    (1st Quartile)
    8/82
    (1st Quartile)

    LIPPER RANKINGS as of 3/31/18

    Source: Past performance is no guarantee of future results. Lipper is a mutual fund performance monitor. The rankings pertain to the Funds’ total return performance and do not take sales charges into consideration.

    Figure 1

    Manager vs Lipper Global Income Funds: Sharpe Ratio Rank

    Created with Zephyr StyleADVISOR. Manager returns supplied by Lipper.


  5. Focus on flexible strategies that complement core exposures.
  6. Investors can utilize the GuideStone Global Fund with both the diversification and return potential of their fixed income portfolio. Through its multi-manager approach, the Fund provides access to institutional money managers with deep knowledge and expertise in global fixed income markets. By joining the skill sets of multiple managers — each with a unique area of specialization — the Fund was built to add value relative to the Bloomberg Barclays Global Aggregate Index.

    • Managing a core fixed income strategy within the Fund, Western Asset Management paints with a broad brush. By combining top-down analysis and bottom-up research, this strategy invests in a highly diversified mix of corporate and government, investment grade and high yield, developed and emerging market securities
    • With a strong emphasis on credit analysis and fundamental research, Loomis, Sayles & Company complements the Fund’s core strategy by providing material exposure to both spread and non-core sectors — most notably corporate credit and high yield securities.

The Fund has broad investment parameters that allow it to adjust its portfolio — using sector rotation, country, currency and security selection, duration and yield curve positioning — in an effort to “go where the opportunities are.” It has a holistic total return focus and can help to enhance an investor’s fixed income exposures across markets, sectors and securities — exposures that cannot be accessed through a U.S.-only core bond fund.

What's your next move?

As U.S. interest rates rise from historic lows, U.S. core bond investors may be pressed to find other sources of return. The GuideStone Global Bond Fund seeks to maximize total return through capital gains and current income while preserving principal value. By adding the Fund as a completion strategy in a fixed income portfolio, investors have the opportunity to gain exposure to different economies, interest rate cycles, currencies and a much deeper list of issuers — which can help add meaningful diversification and potentially reduce the reliance of the portfolio’s performance streams on stable or declining interest rates.

To learn more about the Fund, please visit GuideStoneFunds.com/GlobalBond.

GuideStone Global Bond Fund Morningstar Ranking

 

*The fund may experience negative performance

This Fund invests in high yield securities, commonly known as "junk bonds." While offering higher currency yields, these securities generally are considered speculative and are subject to greater risks than higher-rate bonds. Securities of emerging countries may involve additional risks including price volatility, reduced liquidity, currency fluctuation and financial reporting requirements as well as political and economic instability.

All investing involves risk including the potential loss of principal. You should verify with your situation with your tax advisor.
You should carefully consider the investment objectives, risks, charges and expenses of the GuideStone Funds before investing. A prospectus with this and other information about the Funds may be obtained by calling 1-888-GS-FUNDS (1-888-473-8637) or downloading one. It should be read carefully before investing.
GuideStone Funds shares are distributed by Foreside Funds Distributors LLC, not an advisor affiliate. GuideStone Capital Management, LLC, an affiliate of GuideStone Financial Resources, provides investment advisory services for the funds.

© 2018 The Morningstar Rating® for funds, or “star rating,” is calculated for managed products (including mutual funds, variable annuity and variable life subaccounts, exchange-traded funds, closed-end funds and separate accounts) with at least a 3-year history. Exchange-traded funds and open-ended mutual funds are considered a single population for comparative purposes. It is calculated based on a Morningstar Risk-Adjusted Return measure that accounts for variation in a managed product’s monthly excess performance, placing more emphasis on downward variations and rewarding consistent performance. The top 10% of products in each product category receive 5 stars, the next 22.5% receive 4 stars, the next 35% receive 3 stars, the next 22.5% receive 2 stars and the bottom 10% receive 1 star. The Overall Morningstar Rating for a managed product is derived from a weighted average of the performance figures associated with its 3-, 5- and 10-year (if applicable) Morningstar Rating metrics. The weights are: 100% 3-year rating for 36–59 months of total returns, 60% 5-year rating/40% 3-year rating for 60–119 months of total returns and 50% 10-year rating/30% 5-year rating/20% 3-year rating for 120 or more months of total returns. While the 10-year overall star rating formula seems to give the most weight to the 10-year period, the most recent 3-year period actually has the greatest impact because it is included in all three rating periods. Past performance is no guarantee of future results.