Ivy Securian Core Bond Fund

09.30.19

Market Sector Update

  • The market got its wish for some relief from the Federal Reserve (Fed) as the central bank lowered the federal funds target rate twice in the third quarter. However, the markets didn’t necessarily react as many had expected. Bond buyers responded by pushing yields lower, while the S&P 500 Index set another record, even as stocks saw outflows. Inflation expectations softened, and growth projections barely budged, raising concern conventional policies may be less effective this time around.
  • The global trade war and subsequent uncertainty about its disruption to the global supply chain were major economic headwinds for the period. On the bright side, lower interest rates provided a boost to housing and the employment picture continued to be solid.
  • The same can’t be said for businesses where the outlook darkened as uncertainty dampened investment. Global manufacturing hit the skids in the U.S. and it appears the eurozone could be facing a contraction. U.S. tariffs were placed on Chinese consumer products in September, which are likely to truly impact U.S. consumers for the first time. Analysts expect a year-over-year decline in earnings for the third consecutive quarter. We don’t see an easy fix and expect pressure to continue in the fourth quarter.
  • The Fed joined other major central banks in easing conditions. While officials want to avoid getting into “catch-up” mode, the Federal Open Markets Committee is divided as officials weigh their desire to head off a downturn against fears of using too much dry powder while the economy is broadly in line with their mandate. The market is skeptical, pricing three or four rate cuts in the coming year. Investors are increasingly concerned that the Fed’s toolkit won’t be sufficient when the cycle finally turns.
  • The yield curve has remained inverted since May, and the 30-year government bond rate reached an all-time low in August. The drop in yields has resulted in a return of almost 25% over the last year for long-term Treasuries. Poor liquidity in overnight funding markets in September added to the anxiety as the Fed was caught flat-footed by tight funding conditions.
  • It has been a banner year for most asset classes so far in 2019, but a closer look reveals troubling signs. Strong equity returns are mostly a recovery from last year’s dismal performance. While the total return on the S&P 500 Index was greater than 20% year-to-date at quarter end, the index has returned just over 4% dating back to September 2018. Despite touching a new record in late July, market leadership has moved to more defensive sectors, and continued momentum has been elusive.
  • Corporate bonds produced another very strong quarter of absolute returns, but little excess return relative to Treasuries. The high-grade corporate sector produced a total return of 3.05%, with year-to-date returns slightly higher than 13%. Excess returns for investment grade were up just .04% for the quarter, but have reached around 4% year to date relative to Treasuries. Performance during the quarter was led by intermediate-dated bonds in the utility and financials sectors. BBB-rated debt had a slight edge on performance during the quarter relative to higher rated debt. The securitized sector also produced little in the way of excess return during the quarter.

Portfolio Strategy

  • The Fund underperformed its benchmark for the quarter. This underperformance was due in part to our yield curve positioning, which was slightly lower in duration than the benchmark. The Fund experienced positive results from security selection, particularly from positions in the industrials, local authority, Commercial Mortgage-Back Securities (CMBS) and asset-backed securities (ABS) sectors. The Fund experienced weak security selection results in the utility sector. Sector allocation positioning had little impact on the Fund’s relative performance during the quarter.
  • We only made a few significant changes to the portfolio during the period. Overall exposure to corporate bonds remained somewhat consistent as the level at the beginning of the quarter. Within the corporate sector we mainly added short-dated, floating-rate energy positions. We also reduced the Fund’s exposure to utilities.
  • In terms of interest rate exposure, the portfolio remains most exposed to credits in the utilities, insurance, energy and banking sectors relative to the benchmark. The largest underweights in the corporate space are in communications, technology, capital goods and consumer non-cyclicals.
  • Structured exposure fell as a percentage of the Fund’s net asset value during third quarter, primarily in ABS, as well as agency and non-agency mortgage-backed securities (MBS). Proceeds were reinvested primarily in Treasuries. The portfolio remains overweight ABS, CMBS and non-agency MBS, and underweight agency MBS.
  • The relative overall duration of the Fund fell slightly during the quarter.

Outlook

  • Despite easier monetary policy and solid performance across most asset classes, investors appear to be more focused on negatives. Sentiment is uninspired on slowing growth, earnings pressure and event risk. Market volatility in both interest rates and stocks continues to trend upwards as investors remain unconvinced that the Fed’s actions to date are enough to accelerate growth.
  • We expect much more discussion about the effectiveness of policy tools in the coming quarters. Debate about the merits of fiscal stimulus vs. quantitative easing, negative interest rates, and yield curve targeting will keep market participants on their toes. Rhetoric going into the election next year is likely to heighten risk.
  • Risks are skewed towards lower growth, but we don’t see an imminent recession yet. We expect the margin of safety to edge down as the expansion ages, increasing volatility. Given mixed economic signals and an assist from the Fed, it’s not clear the non-Treasury sectors will perform poorly. Nonetheless, we are more tempered in our risk taking, particularly in the lower rated portions of corporate bond market.

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 Sept. 30, 2019, 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.

All information is based on Class I shares.

The S&P 500 Index is a float-adjusted market capitalization weighted index that measures the large-cap U.S. equity market. The index includes 500 of the top companies in leading industries of the U.S. economy. It is not possible to invest directly in an index.

Duration is a measure of a security's price sensitivity to changes in interest rates. A fund with a longer average duration generally can be expected to be more sensitive to interest rate changes than a fund with a shorter average duration.

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.