Ivy Securian Core Bond Fund

Ivy Securian Core Bond Fund
06.30.18

Market Sector Update

  • The Bureau of Economic Analysis doesn’t release its initial second quarter gross domestic product (GDP) data until July 27, but almost every credible estimate of U.S. economic growth is pointing towards a very solid second quarter. We expect GDP growth to come in well above the first quarter’s 2% figure. The Federal Reserve’s (Fed) New York bank estimates the economy’s second-quarter growth rate could be 2.8% annually. The Atlanta branch of the Fed believes increased consumer spending will help raise GDP by 3.8% during the quarter. Some other market forecasters are projecting over 4%, an unusually high forecast – as GDP growth has topped 4% only three times since mid-2009.
  • Given the healthy economic backdrop, it’s not surprising that the employment picture remains strong. A robust labor market has created more job openings than there are people looking for work. Wage growth in May averaged 2.7% annually, a positive note but not yet at the 3% level that could raise Fed concerns.
  • The corporate sector remains strong, buoyed by strong earnings in the first quarter and expectations for further positive earnings gains. Corporate tax cuts have helped, but revenue growth has surprised to the upside as well.
  • Stocks had a decent quarter, shaking off concerns about trade wars. The technology sector is leading the earnings gains and driving market returns. The energy sector has also recovered, benefitting both energy companies and firms supplying and supporting them. Balance sheets appear to be in good shape, thanks to the financial discipline companies imposed when oil prices were down. Now that oil has reached $70 a barrel, investors will watch to see whether that discipline continues.
  • Those concerns about longer term growth may be emanating from slowing growth in other parts of the world. While the Eurozone grew faster than the United States in 2017, it dropped below U.S. growth in the first quarter, and appears likely to underperform again in the second. The globe has benefitted from the simultaneous growth of almost all national economies, but there are now signs of a slowdown in parts of Europe and the United Kingdom. The U.S. dollar strengthened, leading to higher debt costs for emerging market economies, which do most of their borrowing in U.S currency. That’s likely to act as a drag on emerging market economies.
  • Worries are accelerating over the potential for a trade war to bring down economic growth. The United States and China have imposed $34 billion in tariffs on each other that went into effect July 6, and the Trump Administration is proposing an additional $200 billion in tariffs on Chinese exports.
  • The investment grade corporate bond market had another rough quarter. Investment grade corporate bond spreads increased 14 basis points over the quarter, and finished the quarter 30 basis points wider than at the end of 2017. In contrast to the investment grade corporate market, the structured market has held up relatively well. Returns for assetbacked securities (ABS), Agency mortgage-backed securities (MBS) and commercial mortgage-backed securities (CMBS) were all either neutral or positive.

Portfolio Strategy

  • In the second quarter, The Fund’s performance beat its benchmark before accounting for fees. It also performed well relative to its peers. Security selection results provided about 75% of the excess returns, primarily in the defensive sectors such as utilities, Agency MBS and ABS. We further reduced corporate exposure during the quarter, continuing a rotation out of corporate credit and into structured that began about a year ago. We’ve reduced corporate exposure both on a market weight basis as well as in terms of sensitivity to interest rates. This strategy has paid off, as investment grade corporate bonds have experienced one of their worst six-month periods of relative returns since 2008 and the structured sector has performed relatively well. During the quarter exposure to the financial sector fell the most, primarily due to a reduction in insurance positions. In the industrial sector we reduced positions in the airline and energy sectors. We added to positions in the communications space; spreads have finally reached levels that appear attractive.
  • While we’ve reduced corporate exposure by about 20% over the past year, the Fund remains overweight corporate bonds relative to its benchmark. Spreads, particularly in the long end, have begun to look attractive to us overall. Fundamentals in the corporate sector have stabilized as well. This gives us comfort in maintaining our current position. We continue to favor the securitized sector and we added further to the Fund’s overweight position in ABS and non- Agency MBS. We reduced exposure to the Fund’s overweight position in CMBS and further reduced the underweight position in Agency MBS. We kept the duration of the Fund slightly short of its benchmark.

Outlook

  • With the recovery about to enter its second decade, two potential issues could halt the economy's momentum: rising inflation, and how the Fed keeps inflation under control.
  • In May, the Consumer Price Index increased at an annual rate of 2.8%, the largest gain in more than six years.Rising prices are erasing some of the wage gains households are experiencing. This is definitely top of mind for the Fed. The Fed now has to manage inflation without bringing growth to a halt. We’ll be watching closely to see whether the Fed can walk this very delicate line. Every time it has adopted an overly aggressive stance, the economy has ended up in a recession. The possibility of an overactive Fed breaking the economy’s momentum is, in our view, one of the economy’s biggest risks.
  • For our part we believe growth will likely be moderate from the strong first half pace, but will still remain fairly healthy into next year. Consumer and business confidence remain high. As far as trade, our views haven't changed. We don’t expect trade to pose major risks to the economy or to markets. We may experience short-term ups and downs over trade negotiations, but revising previous trade agreements could be positive for the economy over the long term. U.S. trade with Mexico had a smaller economic impact when North Atlantic Free Trade Agreement (NAFTA) was originally negotiated, and it may merit a new look.
  • We had anticipated the 10-year Treasury yield to trend toward 3%, but still don't expect yields to move much higher than that level. We don’t believe the Fed is behind the curve on inflation, so we don’t expect more aggressive tightening than what is already indicated. With that as a backdrop we expect corporate bonds to perform better than they have in the first half of the year. We also expect the structured securities markets to perform well, particularly consumer facing ABS sectors.

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, 2018, 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 Ivy Advantus Bond Fund was renamed Ivy Securian Core Bond Fund on April 30, 2018.

David Land served as a portfolio manager on the Fund until May 11, 2018.

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.