Q:  What is the history and objective of the fund? A : Our fixed income group manages $22 billion and as a part of the overall strategy we have $50-100 million invested in high yield bonds. The PNC High Yield Bond Fund was launched in 2008 with the objective to provide a high current level of income with potential capital appreciation. Ken Karwowski serves as the lead portfolio manager and Tim Compan is the co-portfolio manager of the fund. Q:  What core beliefs drive your investment philosophy? A : We believe we can achieve attractive risk-adjusted returns by combining a rigorous bottom-up financial analysis with a top-down risk management overlay. In our opinion, high yield bonds represent a higher risk/reward opportunity within the fixed income investment spectrum by offering potential for more equity-like returns, less sensitivity to interest rates, and diversification benefits within an overall investment or a fixed-income portfolio given the lower correlations to other fixed income assets. Q:  How does your philosophy translate into an investment strategy? A : Our high yield investment process aims to achieve attractive risk-adjusted returns through active bottom-up security selection with a top-down risk management overlay. We evaluate the universe of BB+ or below rated securities, which comprises approximately 1,500 issues. Our systematic screening focuses on cash flow, issuer operating strength, and valuation. Our security selection process, which we describe as FVT- Fundamentals, Valuation and Tactics - combines quantitative credit analysis, qualitative credit factors, capital structure, and the determination of relative value. Finally, the portfolio is constructed on a risk-managed basis through issuer and industry diversification as well as a consistently applied sell discipline. Q:  How do you carry out your research process? A : We generate investment ideas via three sources. First, we have a screening model for generating ideas. Here, the most relevant factor we search for is free cash flow. Secondly, we look at the new issue market, where we scrutinize new bond offerings. Finally, we carefully examine changes in individual company security prices we like due to market fluctuations. We identify companies that we believe possess good business models with sustainable competitive advantages. We then carefully analyze the companies’ financial statements. We pay particular attention to financial metrics related to cash flow and balance sheet leverage. We also try to identify management teams that are solid operators and are prudent in their allocation of capital.. We also pay attention to the management’s ability to reinvest cash and sustain returns. In essence, our investment process utilizes a bottom-up approach with an emphasis on good businesses, stable or growing free cash flow and strong, prudent management teams. We rely on the knowledge and experience of our research team to identify companies possessing these attributes. Being value investors, we believe that the price we pay for a high yield security is the most significant measure, and we complement this approach by investing in companies that demonstrate competitive advantages in their industry. As we focus on high yield security selection, we benefit from being embedded in a larger taxable fixed income team. This enables us to complement our high yield process with this top-down strategic perspective . Additionally, we benefit from the top-down overlay by using it to look at valuation opportunities along the yield curve. Our credit research team focuses their efforts by specializing in industry subsectors. We seldom find it necessary to make actual company visits; preferring to concentrate our efforts on reviewing financial statements and participating in management conference calls and presentations. However, we do find industry conferences to be valuable; as they provide the best opportunities to interact with a wide variety of management teams Q:  Could you illustrate your research process with a few examples? A : A good example of a security from the new issue market that meets our investment criteria is Darling International Inc..Darling is a provider of rendering, recycling and processing solutions for the nation's food industry. We currently hold a position in Darling in the portfolio. When Darling came to market, they were financing a major acquisition. Looking at their competitive position , we identified them as a strong player in the industry and we determined they had a capital structure that would allow them to properly implement the acquisition while sustaining the Company’s historic growth. An example of our screening process is Calpine Corporation, an independent wholesale power producer, whose name showed up on one of our screening models. It is a company that emerged from bankruptcy after being levered prior to that. When Calpine emerged from bankruptcy, many were reluctant to invest in them for a while. However, we determined that their power generating plants were high quality assets. Having performed our fundamental analysis from a capital structure standpoint, we found that the assets were both secured and in a good physical condition. A third example is Transocean Ltd. an international provider of offshore contract drilling services for oil and gas wells., While Transocean is not technically a high yield issuer, its bonds traded at high yield levels because of persistent speculation that the company would be downgraded after the Gulf of Mexico oil spill. We believed that Transocean’s $450 million bond offering was attractively priced and that the company had both the assets and cash flow to support its future obligations. Q:  What are your views on margin of safety? A : We do not have a hard number or any set target amount based on the intrinsic value calculation. What we try to do instead is estimate the value of what a business is worth. For cyclical industries we also prefer to see substantial liquidity as well. We subscribe to the margin of safety concept and seek to identify companies that are trading at a discount to their perceived value in the future. As part of this, we pay more attention to the company’s competitive position and management’s ability to generate and reinvest free cash flows. Q:  How do you build your portfolio? A : Ideally, the portfolio contains between 60 and 80 names. It is a collection of individual investments that all exhibit some type of competitive advantage or a good position within its industry. Our turnover tends to be fairly low. We have constraints on portfolio concentration – 4% per individual issuer – and for individual industries we do not exceed four times the index weight. Some of the industries that we avoid are those in cyclical and secular decline such as wire-line telephone services providers or airlines. In general, we prefer to select bonds that are rated B and BB while we selectively participate in CCC rated and investment grade securities. For instance, our best performer last year was Universal City Development Partners, Ltd., an operator of theme parks. What we noticed was that the company spent money developing new rides and attractions that expanded their customer base and broadened their revenue profile. Alhough the company’s balance sheet was highly leveraged and their bonds were rated CCC, we believed we were adequately compensated for the risks we were taking. Generally speaking, we have a preference for bonds of companies that have suffered temporary setbacks in their business: popularly referred to as “fallen angels”. Over the past two decades, these “fallen angels” have generated some of the best returns in the high yield investing space. For benchmarking purposes, we use the Barclays U.S. Corporate High-Yield Bond Index and we do not necessarily try to be duration neutral. Q:  What is your sell discipline? A : In our view, the single most important factor for selling a security is whether our original fundamental outlook has deteriorated. While looking at relative value and trading activity, 90% of our sell decisions are based on changes in fundamentals. If we find a better alternative based on relative valuation, or if there is poor trading activity, the name will also become a sell candidate. We strive to strike a balance between absolute yield levels and spread levels. Widening of interest spreads on a relative or an absolute basis signals our serious consideration for immediately replacing a security. Q:  How do you do risk management? A : The best way to manage risk is to maintain adequate portfolio diversification. We adhere to our value investing approach, which means that we closely monitor the price at the time of purchase. We also limit our individual holding to 4% at each issuer level and we do not exceed four times industry weights in the index.