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Low Duration for Enhanced Cash Management

October 20, 2020 | U.S. Fixed Income


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Rates are zero-bound, and today, everyone seems to be looking for yield. But as prime money market funds close and government money markets produce limited yield, investors have been forced to seek alternatives to cash management. We view high-quality, low-duration strategies as one such alternative to enhanced cash management.

We employ continuous active management to ensure we have the appropriate high-quality and diversified exposures.

Like many investors in today's low-rate environment, we are looking for yield, but the priority for us in any market is to also really understand and solve for the clients' needs—and our focus today tends to be on finding high-quality sources of income while preserving capital.

We created our low-duration strategy for investors that seek capital preservation, liquidity, and some income. The strategy is distinct in its high-quality orientation. Investments must be rated at least A-. It is diversified, comprised of four types of securities: agency mortgage-backed securities (MBS), asset-backed securities (ABS), corporate credit, and Treasurys. And we seek a duration profile of about one year.

Importantly, our pursuit of income occurs after we deem our objectives of high quality, liquidity, and preservation of capital are satisfied.

The most important element of our approach is that we employ continuous active management to ensure we have the appropriate high-quality and diversified exposures, including a timely and appropriate allocation between fixed- and floating-rate instruments.

Plus, security selection is key. We are committed to a disciplined security-selection process that looks at fundamentals versus relative value. That, combined with a distinctive approach that favors investing in above-market-coupon agency MBS, gives us the potential to achieve higher yields than cash instruments while providing the benefit of capital preservation.

Additionally, when evaluating MBS, we focus on agency versus non-agency. The benefit of agency MBS is the timely payment and principal and interest that is guaranteed by government sponsored enterprises such as Fannie Mae and Freddie Mac. It is generally less risky but has also provided nice income for our investors.

We believe disciplined risk management is critical, and it remains a priority for our low-duration strategy.

Furthermore, we believe disciplined risk management is critical, and it remains a priority for our low-duration strategy. We continue to challenge our base-case expectations to ensure that we understand the true downside risks of all our positions within the strategy.

Especially in a low-yield environment, it can be challenging to identify securities that could add incremental yield without adding a lot more risk.

We are very constructive on the future of ultra-short bond strategies, especially the ones with a high-quality tilt, the ones focused on capital preservation.

We have seen that in times of stress, central banks become very accommodative to help boost the economy. This typically leads to front-end rates moving toward zero, and investors start looking for alternatives to manage their cash.

Certainly, things seem better now than they were in March, but we are still living in uncertain times.

Certainly, things seem better now than they were in March, but we are still living in uncertain times. We believe the short end of the strategy curve will remain anchored near zero, and we do not believe that under the current regime the Federal Reserve is at all interested in entertaining the idea of negative rates. Therefore, these strategies that offer capital preservation, liquidity, and income may be more in demand.

Ruta Ziverte is head of fixed income for William Blair.

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