Bond by Bond

Finding Rising Stars in Housing

PIMCO Portfolio Manager Mohit Mittal and Credit Research Analyst Jessica Tom share how independent research helped PIMCO navigate the housing cycle - and see positive changes at a wallboard company.

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Mohit Mittal: The housing sector is about 15% of the U.S. economy, which includes construction activity, which includes transaction activity, lending activity. So, what happened in the housing sector impacts the entire economy. There are so many different opportunities within this sector. My name is Mohit Mittal. I'm a managing director and portfolio manager at PIMCO.

Jessica Tom: Housing is a great sector to follow. It’s so multidisciplinary in terms of looking beyond the financial statements, but to really understand what drives demand. My name is Jessica Tom. I’m a credit research analyst here at PIMCO. The research process here is analytical and bottoms-up. We take a very active approach. There is such a focus on looking for what’s going to happen in the market before it actually happens. When you look at historical housing cycles, they typically lasted three to five years with the recovery lasting two to three. The way we have formed the team here with a good portion of very senior analysts who have 10 to 15 years of experience covering their sectors, many of us have seen a full cycle, from peak to trough.

Mohit Mittal: Prior to the financial crisis, we would actually underweight the sector. We were bearish on the housing market. When we saw prices falling to a point that it looked very attractive. We also saw that inventories were clearing at a pace that was faster than what the market and we were anticipating. So we starting to look for opportunities to invest. As we started to see pickup in construction activity, we shifted our focus to building material companies. As house prices improved, we started to see pickup in transaction activity, which is when we shifted our focus to title insurance companies. So over time we think we have been successful in navigating this particular housing cycle.

Jessica Tom: One of the benefits of having a very large research team is that analysts are allowed to really dig deep into small, discrete issuers. We build our own models. We visit the companies and we build our relationships directly with the issuers.

Mohit Mittal: We are active managers and about a third of the time our ratings are different from the rating agency ratings. In the cases where our views are better than the current state of the company we will call that a rising star company.

Jessica Tom: For example, having followed this wallboard company for a long period of time we were able to identify that there were real changes going on in the business where the company was implementing significant cost savings, undertaking divestiture of assets to de-lever and evolve from a highly levered, barely generating any free cash flow company into a very conservative rising star. We were able to have faith in the company even when the market didn’t. And today, with their financial discipline they were upgraded from triple C to high double B.

Mohit Mittal: By construct, the passive investors will miss out on such opportunities, because they are investing based upon what the current state of the company instead of anticipating where the company is headed. We recognize we will not be successful all the time but we think our framework is such that we will be able to add value consistently. We are looking at the fundamentals of companies today, but we are trying to think about what they’ll look like two years from today. The market will get there in the future but we want to get there first.

Disclosures


Past performance is not a guarantee or a reliable indicator of future results.

All investments contain risk and may lose value. Investing in the bond market is subject to risks, including market, interest rate, issuer, credit, inflation risk, and liquidity risk. The value of most bonds and bond strategies are impacted by changes in interest rates. Bonds and bond strategies with longer durations tend to be more sensitive and volatile than those with shorter durations; bond prices generally fall as interest rates rise, and the current low interest rate environment increases this risk. Current reductions in bond counterparty capacity may contribute to decreased market liquidity and increased price volatility. Bond investments may be worth more or less than the original cost when redeemed. Management risk is the risk that the investment techniques and risk analyses applied by PIMCO will not produce the desired results, and that certain policies or developments may affect the investment techniques available to PIMCO in connection with managing the strategy. Investors should consult their investment professional prior to making an investment decision.

The credit quality of a particular security or group of securities does not ensure the stability or safety of an overall portfolio. The quality ratings of individual issues/issuers are provided to indicate the credit-worthiness of such issues/issuer and generally range from AAA, Aaa, or AAA (highest) to D, C, or D (lowest) for S&P, Moody’s, and Fitch respectively.

This material contains the opinions of the manager and such opinions are subject to change without notice. This material has been distributed for informational purposes only and should not be considered as investment advice or a recommendation of any particular security, strategy or investment product. Information contained herein has been obtained from sources believed to be reliable, but not guaranteed.

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