Ivy Limited-Term Bond Fund

Ivy Limited-Term Bond Fund
12.31.17

Market Sector Update

  • The yield curve was quite the story for 2017, with changes magnified in the fourth quarter. The curve flattened throughout the year, both from rising short-term interest rates and falling longer-term rates. The yield on the two-year U.S. Treasury note rose nearly 40 basis points in the quarter and 70 basis points for the year, while the 10-year U.S. Treasury note rose only seven basis points in the quarter and actually fell nearly four basis points, year over year. The long-term bond rate fell 12 basis points in the quarter and 32 basis points for the year.
  • The flattening of the yield curve has many speculating about possible inversion (rates in the front of the curve are higher than those longer) and what consequences could result. Historically, an inverted yield curve has usually been followed closely by recession. Both economists and investors are wondering if it could be different this time, given that the Federal Reserve (Fed) and other central banks around the world have intentionally kept interest rates low in an attempt to boost growth.
  • The Fed’s Open Market Committee (FOMC) increased short interest rates three times in 2017 (March, June and December), after raising them just once in both 2015 and 2016. They also started systematically reducing the Fed’s balance sheet in the fourth quarter. Rather than selling securities outright, they are tapering their purchases of securities to replace those maturing each month. The minutes of the Fed meetings suggest they anticipate hiking rates another three to four times in 2018.
  • The Federal Open Market Committee (FOMC) announced on September 20 they would begin the task of reducing the size of the Federal Reserve’s (Fed) balance sheet in October. To do so, they plan to phase out the policy of reinvesting all principal repayments from maturing U.S. Treasuries and federal agency securities, as well as monthly principal payments from agency mortgage-backed securities.
  • Passage of tax legislation in the fourth quarter contributed to both a strong equity market and rising short- and intermediate-term bond yields. Many feel the lower corporate tax rates and the repatriation of corporate cash from overseas will help boost gross domestic product (GDP) in 2018. Time will tell if the tax changes translate into a stronger economy with more business investment in human capital and plants and equipment, or if it results primarily in more stock repurchases and dividend increases.

Portfolio Strategy

  • Our continued overweight in investment-grade corporate bonds has helped performance, as this has been the bestperforming asset class in the investment-grade fixed income universe all year.
  • Duration was kept below that of the benchmark, as yields rose significantly in the quarter.

Outlook

  • The internal economists at Ivy Investments have forecast 2018 U.S. GDP growth at 2.9%. Major global economies are growing in sync for the first time in years, a situation that may support global GDP growth but could lead to higher interest rates at the same time. Of course, a chief concern for the Fed is implementing policy that helps achieve their target level of inflation. Short-term rate increases have been more gradual than the Fed initially forecast because inflation has remained so muted. Many market observers believe inflation will soon start showing up in the labor market data in the wage numbers, due to current employment measures. With the unemployment rate at 4.1% in its December release, many feel full employment is not too far away.
  • In November, President Trump nominated current Fed governor Jerome (Jay) Powell to take over as Fed Chair on February 5, 2018, when Janet Yellen’s term expires. Powell has served on the Fed Board of Governors since 2012. He has voted with the consensus on every policy decision, including the rate hikes to date and the unwinding of the Fed’s balance sheet. Most believe he is similar to Yellen philosophically and will continue to communicate monetary policy transparently as Yellen did. There are still other board vacancies that President Trump will need to fill, including that of Vice Chair, vacated by Stan Fischer in the fall, as well as Powell’s post when he assumes the Chair position.
  • As usual, there will be many moving parts that comprise the fixed income investment landscape in 2018. Credit spreads are extremely tight in both the high yield and investment grade arenas, causing many investors to ask if they are being adequately compensated for the credit and duration risk being taken.
  • Geopolitical risk was ever-present in 2017, and we expect the same for 2018. As the leaders of the U.S. and North Korea continue to trade insults over social media, the markets get very nervous over the potential threats being made.

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 Dec. 31, 2017, 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.

Risk factors: As with any fund, 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 rate rise. These and other risks are more fully described in the Fund's prospectus.