David Fisher: Hi. I'm David Fisher. And I'm here once again with PIMCO's group CIO, Dan Ivascyn, for an inside look at some of the recent conversations taking place in PIMCO's investment committee or IC. So Dan, in the press and among clients there's been an increasing amount of focus on the subject of market fragility. And in particular, many clients have asked questions about the US money markets and the fact that in September we saw a rapid increase in funding rates over a very short period of time. So is the IC concerned that markets may be more fragile than they seem? And if so, what are the signs that the IC is watching right now?
Dan Ivascyn: I guess the answer is, to a degree. We have spent a lot of time over the course of the last several weeks talking about the disruptions we've seen in the repo market. We also engaged the views of our outside advisor, Dr. Ben Bernanke. We certainly did have some funding pressures over the course of the last few months.
And the federal reserve has worked very closely with market participants to provide the necessary liquidity, to ensure that that type of volatility gradually subsides.
We do think that the Fed has the ability to control that volatility and the desire and so we very well could get into a situation as we approach year end, where we see a bit of ongoing volatility in the funding markets. But we don't think it will be that significant. And we do believe it will be manageable.
Now in terms of your overall question regarding market fragility, it is an important area of focus. Since the financial crisis there's been significant regulation impacting the banking sector. And transactional liquidity has deteriorated, there are fewer market participants today across the global financial markets to step in and provide support during these bouts of volatility.
And as an active asset manager, you need to not only appreciate that, but plan for it in terms of your overall philosophy regarding portfolio construction.
David Fisher: Sticking with the subject of market fragility, last year around this time markets were quite volatile. And I think some people are a bit concerned that heading into year-end we might see a similar situation. How is the IC thinking about this?
Dan Ivascyn: I don't think we'll necessarily see the same type of volatility we saw towards the end of last year. But I think it's important to note that all the ingredients are typically in place in late December for smaller amounts of news to cause greater than typical volatility in financial markets.
During December you typically have a banking sector that's more lightly staffed. You still have a Fed meeting. And you have a decent amount of transactional flow towards year end that's typically about more of a maintenance variety.
So it's possible. I think as an investor you need to be comfortable with more volatile financial markets on an ongoing basis. But last year's volatility in both the equity and the fixed income markets we think was somewhat unique, and the odds at least of the same level of volatility going into year end 2019 are still relatively low.
David Fisher: The geopolitical environment has also been a source of considerable uncertainty lately. You have the trade war, Brexit, the impeachment inquiry here in the US. And given the difficulty in predicting how some of these events will unfold, how is the IC preparing portfolios to be resilient to a variety of potential outcomes?
Dan Ivascyn: So as an investor, you need to become accustomed to the fact that political uncertainty is going to increasingly drive market outcomes. So not only has it been an area of focus for us, it's also important from a risk management perspective.
Given the extreme uncertainty that you mentioned, we're trying to be even more diversified than we've historically been.
Be very, very careful about position sizing. Be very, very careful about where you have an edge in a market and where you may have less of an edge than you think you have. You have to have a healthy degree of humility around your analysis structure, some of the models that you've grown comfortable with in the past.
So again, I think this is an environment that's going to lead to a lot more volatility, but also be an environment that's consistent with the strengths of a global, well-resourced, diverse, investment platform.
David Fisher: So let's talk about some of the opportunities. What can an active fixed income manager do these days to seek return opportunities? And where is the IC finding value right now?
Dan Ivascyn: So there are some areas that we think represent real good value for our clients.
We’ve spent a lot of time talking over the course of the last several years about the attractiveness of housing related investments.
And even over in the corporate area. We look at corporate credit today, far fewer investments pass our credit underwriting criteria than would have been the case a few years ago. But there's still some pockets of value.
Banks are taking a lot less risk today. They still offer attractive spread to the bond investor. And capital levels are very high from a historical perspective.
So we still like overweight in financials, the focus on the United States, even some select opportunities over in Europe and even the UK. And finally within the corporate credit sector, if you focus on corporate debt tied to the consumer, which we believe is quite strong in the United States, and where household leverage has steadily come down the last few years, we think you can also pick up some incremental return while providing defensive positioning if the economy were to deteriorate further than we anticipate.
David Fisher: Are there any other thoughts you'd like to share with our clients as the year winds down and we head into 2020?
Dan Ivascyn: Just one last very important one. I wish all of our global clients a happy holiday season. I want to thank them for their continued support of PIMCO.
David Fisher: Great. Thanks very much, Dan. And thanks to you all for joining us.
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