"Oh My God!" I am once again forced to quote Jonathan Quayle Higgins, played by John Hillerman on Magnum P.I. As you know, my columns often take a roundabout route to get to the point. My process involves using as many primary sources as possible, and the tabs on my Chrome browser are usually difficult to click because I have so many tabs open. Today was no different, and I tried to start with primary sources.
In this case I use Treasury Direct, and an individual CUSIP I have decided to follow: 91282CDJ7. First issued on November 15th, then re-opened twice, 91282CDJ7 has been an absolute disaster, performance-wise. With a coupon of 1.375%, that was predictable, I suppose, but remember that enough buyers were found to not only satisfy the original auction last November, but also two additional ones.
As of yesterday 91282CDJ7 was trading at 87.25 cents on the dollar. Treasury Direct updates pricing for individual bonds at 1 pm each weekday - 91282CDJ7 will be down again today. Let's think about that for a second. What entity can afford a 13% loss in five months' time? Certainly not mine, Excelsior Capital Partners, and I don't know too many others that can.
I found this article on Morningstar detailing the performance of the largest bond funds in Q122. In a word: bad. We will continue to see outflows from the larger, safer bond funds. The most recent data, as reported on a 13-week rolling average by market savant Dr. Ed Yardeni, showed a $350 billion bond fund outflow this week. But shed no tears for Vanguard, American Funds Dodge and Cox, and unless you are a big Bill Gross fan, I wouldn't worry about PIMCO, either.
No, it is the smaller players that I worry about. Again I like to supplement my primary research with news articles, and this one from Bloomberg, from one year ago, tells a huge story. The article postulates that large bond funds were (the article is a year old, remember) the new too big to fail in April 2021, given the Fed's palliative actions in March 2020. That seems so quaint as it was written on a day when the yield on the 10-year UST was 1.64%. It is 2.87% now, after having briefly touched 3% in overnight trading, The last time the 10-year UST yield closed above 3% was November 30, 2018.
We are sailing in recently-uncharted waters here, and I went back to the Bloomberg article to find the marginal funds, the ones that could be impacted by such a back-up in yields. The one listed is the Braddock Multi-Strategy Income Fund, and oh, man, what a dog that fund has been. On a "loaded" basis (including the fund's fees) (BDKNX) fell 8.22% in the first quarter, and had a 5.09% decline on the trailing one-year and 10.14% decline on the trailing three-year performance pegs as of 3/31/22.
Going through Braddock's marketing materials (Braddock has a sub-advisor on this fund, Liberty Street Advisors) is like a journey in a time machine back to the summer of 2008. Braddock's slides show BDKNX is composed of the following:
Modern RMBS (%) 70
Legacy RMBS (%) 0
Multifamily CMBS (%) 5
Consumer ABS (%) 14
CLO (%) 11
CLOs? Are you kidding me? What year is it? This is what happens when active managers have to reach for yield. This is all caused by the Fed's extraordinary low-rate-setting and endless bond-buying.
You do not buy a fund like this in an environment of rising yields. They can't handle the types of outflows that accompany these types of losses, and your basic pension fund asset allocator has as much access to real-time data as the active fund managers do. They can and will and are reallocating funds now. They will continue to when the 10-year continues its rush to 4% and when Powell and his cronies - Powell practically screamed this yesterday - drop a 50 basis point hike in the Fed Funds rate on the markets on May 4th.
Only natural resources can save us now. Based on the performance of my HOAX (link here) and HOAX 2.0 (link here) portfolios relative to their benchmarks - Cathie Wood's leaky (ARKK) and the (QQQ) s - that is exactly what is happening. Watch out for stress in the financial system. Powell and Yellen will sip Chardonnay with Larry Fink and Ken Griffin (who was known to pay Yellen $700,000 for speaking to his firm, Citadel, when she was "between jobs") but these feckless technocrats don't go as far down the food chain as Braddock.
That's why they always miss the stress in the financial system. Make sure you don't.
