Market Sector Update

• The phrase “Don’t fight the Fed” describes the environment over the last three months in the taxable investmentgrade bond universe. The Federal Reserve (Fed) announced in late-March it would support the market through purchases of U.S. Treasuries, agency mortgage-backed securities, secondary corporate bonds and new-issue corporate bonds. This commitment has expanded to include ETFs and some high-yield credit.
• The pledge from the Fed has strengthened liquidity in these markets. The Fed’s balance sheet was less than $4 trillion prior to the late-March announcement and was more than $7 trillion at the end of June.
• The agency mortgage-backed securities market continued to normalize in the quarter. Spreads on agency mortgagebacked securities have stabilized in the area of 70-80 basis points (bps) over the 10-year U.S. Treasury. Pay-ups on specified pools, the extra prices investors pay for collateral selection, recovered back to pre-crisis levels mainly due to liquidity improvement. The increasing prepayment risk caused by declining mortgage rates also has contributed to this price recovery in pay-ups. The improvement can be directly attributed to the Fed and its swift and strong commitment to support the mortgage market.
• Yields continued to go lower on the front end of the curve. The yield curve, however, actually steepened in the quarter with the rotation occurring around the 10-year U.S. Treasury note. The 2-year U.S. Treasury yielded just 15 bps at quarter-end, nearly 10 bps lower than at the start of the quarter. The 10-year U.S. Treasury yield ranged from 57 bps to nearly 90 bps during the quarter, and then finished the period at 66 bps, just 1 bp lower than its starting point for the quarter. The 30-year U.S. Treasury edged higher over the quarter and finished at 1.41%, nearly 9 bps higher than its starting point.
• While spreads on mortgage-backed securities are tighter than in the initial throes of the pandemic, the collapse in U.S. Treasury yields over the past four months means these securities are yielding much less now than in 2019.

Portfolio Strategy

• We slightly increased holdings of mortgage-backed securities and similarly reduced the Fund’s allocation to U.S. Treasuries to take advantage of opportunities in the mortgage market.
• We lowered duration from approximately from 95% to 88% of the benchmark, and reduced longer duration mortgages in favor of shorter duration mortgages.
• We have been focused on locating lower premium agency collateralized mortgage obligations and agency commercial mortgage-backed securities with good prepayment protection.

Outlook

• Although U.S. Treasuries have low yields with little hope of increasing anytime soon, they are a great source of liquidity and help the Fund’s total return in time of stress. We continue to look for opportunities to add yield when we feel the risk taking is prudent, but we will maintain a significant allocation to U.S. Treasuries.
• We are shorter duration than the benchmark and underweight the long end of the curve. We believe there is potential for continued steepening of the yield curve as long-dated yields may continue to creep higher with the additional debt the U.S. government is issuing to battle the pandemic and its economic challenges. While the Fed has committed to keeping short rates low, we believe it will not be able to control the long end of the curve should investors begin demanding higher yields to hold more U.S. Treasury debt.
• We are in a pandemic and thousands of lives have been lost. We have never been in this situation before and we do not know when it will end. The initial job losses came from the immediate, temporary closures primarily in the retail and hospitality industries. Unfortunately, some of those closures and job losses are likely to be permanent. Sales-tax revenue losses likely mean job losses at the local and state government levels. The gross domestic product loss in the second quarter is likely to be massive. Consumer spending habits have changed, the future of office environments is in flux and unknowns persist in the face of re-openings. In our view, the lasting effects of this pandemic and financial crisis are yet to be fully understood.

The opinions expressed are those of the Fund’s managers and are not meant as investment advice or to predict or project the future performance of any investment product. The opinions are current through June 30, 2020, are subject to change at any time based on market and other current conditions, and no forecasts can be guaranteed. This commentary is being provided as a general source of information and is not intended as a recommendation to purchase, sell, or hold any specific security or to engage in any investment strategy. Investment decisions should always be made based on an investor’s specific objectives, financial needs, risk tolerance and time horizon. Past performance is not a guarantee of future results.

The impact of COVID-19, and other infectious illness outbreaks that may arise in the future, could adversely affect the economies of many nations or the entire global economy, individual issuers and capital markets in ways that cannot necessarily be foreseen. In addition, the impact of infectious illnesses in emerging market countries may be greater due to generally less established healthcare systems. Public health crises caused by the COVID-19 outbreak may exacerbate other pre-existing political, social and economic risks in certain countries or globally. The duration of the COVID-19 outbreak and its effects cannot be determined with certainty.

All information is based on Class I shares.

Risk factors: The value of the Fund's shares will change, and you could lose money on your investment. An investment in the Fund is not a bank deposit and is not insured or guaranteed by the Federal Deposit Insurance Corporation or any other government agency. Fixed income securities are subject to interest rate risk and, as such, the net asset value of the fund may fall as interest rates rise. Investing in below investment grade securities may carry a greater risk of nonpayment of interest or principal than higher-rated bonds. These and other risks are more fully described in the Fund's prospectus. Not all funds or fund classes may be offered at all broker/ dealers.