Fixed-Income Style Analysis and Optimal Manager Structure

Abstract

Most institutional investors do not have a scientific way to assemble a portfolio of fixed-income investment managers. And because the effective exposures of investment managers vary over time and their normal portfolios may be materially different from what would be expected according to their stated benchmarks, investor’s fixed-income portfolios may face unknown or unmeasured exposures. Some exposures may reflect active bets on credit spreads and durations, and others assumptions about the ability of active managers to produce pure alpha, contributing to the disappointing performance often experienced by the average fixed-income investor. The methodology here begins with a style analysis framework for fixed-income managers that measures macro sector and duration biases. The style analysis quantifies the exposures that managers historically have been taking in order to better understand manager’s forward-looking exposures and prospective alphas. Then, by viewing each manager as a security in a mean-variance framework, manager structure optimization is used to construct efficient portfolios that define the roles of each manager in the larger portfolios. A case study demonstrates how efficient fixed-income portfolios can successfully blend a variety of manager styles and exposures.