Q:  Can you give an overview of the fund management company? A : We are a globally integrated team of one hundred people. We manage money for various mandates, such as the Asian Bond Fund in Singapore; the Strategic Bond, Strategic Credit and Global Corporate Bond Fund in Europe; and in the US, the Total Return Fund, as well as many other mandates. Our US team comprises of twenty people with nine portfolio managers who are all sector specialists and a team of twenty-four credit analysts. We are very intensely focused on research. Q:  Could you define the investment philosophy behind the fund? A : Our investment philosophy revolves around three elements. Firstly, risk control is absolutely paramount in fixed income. Secondly, we believe bond markets are global, interrelated and generally efficient but overreact to events. Thirdly, we think that investors located regionally, working together in global teams, can create an information advantage. Q:  What is your investment strategy? A : The key issue for us in fixed income is risk management. Diversification is essential within the credit sectors. We have issuer concentration limits which control the maximum exposure we will take to any one credit because credit risk is asymmetric on the downside. We invest on a relative value basis and diversify the portfolio across relatively uncorrelated investment strategies. Q:  Could you describe your research process? A : Proprietary research is at the core of our process. Our goal for the fund is to outperform our benchmark the Barclays Capital US Aggregate Index by 100 to 125 basis points per annum. We use an active investment approach where the two major drivers of our outperformance are sector rotation and security selection. We evaluate very long-term trends and incorporate our economic outlook for each of the three major regions in the world; and next, we set expectations for interest rate moves and volatility as well as individual sector returns based on various scenarios. Internally, we have a four-step process where we first discuss investment themes, develop those themes and review those comprehensively on a quarterly basis. We then set and prioritize our investment strategies on a weekly basis, which concludes the second stage of the process. The third stage is portfolio construction where we implement the asset allocation shifts that we decide upon during the weekly meetings where we debate and then prioritize various potential changes to investment strategies. The last step in the process is risk management, which involves monitoring the overall tracking error volatility of our portfolios versus the benchmark, as well as making sure that we are injecting enough risk in the portfolio to achieve our alpha target while not taking too large a risk where the portfolios are exposed to tremendous potential underperformance. During a meeting on a weekly basis we debate the relative attractiveness of the various sectors, we go through a detailed analysis of the various spread sectors like credit, both investment grade and high yield, the securitized sectors, which include commercial mortgagebacked securities (CMBS), asset-backed (ABS), and residential mortgages (MBS), as well as the government sectors which include nominal Treasuries, Treasury inflation-protected Securities and agencies. Q:  How do you allocate capital in your fund? A : By making a conscious decision where to allocate capital between the various sectors including government bonds. Currently, we are very underweight Treasuries but our big overweights are in residential mortgages and corporate bonds. Q:  What kind of opportunities do you foresee in the mortgage market? A : We feel that various government policies within the securitized sector have been effective, most notably those under the Term Asset-Backed Securities loan Facility (TAlF) program. As we continue to be cautious on the commercial real estate market, we also believe that the real credit dislocations in the sector are about three to four quarters behind that in the residential mortgage sector. We have not been investing in subprime assed-backeds (non-agency mortgages) because we do have credit concerns there, and even though there has been much improved pricing since last September/October we are still not sure that investors are adequately compensated. Also, it is a relatively small component of the benchmark relative to the investment grade corporate or the agency-backed mortgage securities sectors. Q:  How do you construct your portfolio? A : We have frequent meetings to discuss our outlook for either credit or securitized or the government sector, which feeds up into the general fixed income outlook. Internally, we use our rates “score card” to look at a number of different factors and review that on a monthly basis so that we achieve consistency in terms of outlook among the portfolio managers. We do something very similar in credit. We use our own proprietary models to predict both short rates and long rates as a tool, which highlight the discrepancies between what the model is telling and where the market is pricing securities. Our technical input analysis in conjunction with the sector specialists’ discussion on fundamentals is considered for sector decision. We actively manage sector exposure primarily across the three major sectors – Treasuries, corporates and mortgages. Q:  How do you do your issuer selection? A : There are three different ways of looking at credit internally. Each credit analyst must assign an opinion to every issuer - improving, stable or declining. What makes us a little bit unique is the recommendation stage because our analysts also have to incorporate pricing in the market - valuations. We have a four-point scale and that is one of the key drivers of our sizing of positions in the portfolio as we typically will go close to issuer concentration limit for buy recommendations. We will take a little bit smaller exposures to overweights and then when an analyst moves a credit down to an underweight that is a signal for us to start reducing exposure or to sell it to rotate into new issues or other credits that our analysts have identified as fresh top opportunities. We have a strategy meeting on a weekly basis where the analysts comprehensively review any new top ideas, or any major changes to the recommendations. Lastly, the issuer concentration limit is another way that we look at credit and that essentially protects us from ourselves. We cap the maximum exposure we will take, so that no one credit blow-up can unduly impact the whole portfolio. Sizing is partially determined by the potential for downside price volatility and by the credit rating. Q:  How many securities can you hold at any given time? A : We tend to hold about 60 issuers in our credit portfolios in investment grade. During periods of economic recovery, we typically hold more lowerrated credit, including a big overweight in BBBs and perhaps close to our 20% limit in high yield; then, we inherently will have a larger number of credits because this issuer concentration limit system forces diversification for lower-rated credits. Within high yield portfolios we are more diversified, having usually about 120 credits or so. There’s no limit by prospectus on the number of issuers but because we have 40% exposure to mortgages, which is primarily agency mortgages, it drastically reduces the number of issuers in the fund. Currently, we have about 30% exposure to corporate bonds. Q:  How much do you rely on rating agencies for securities ratings? A : Not at all, I would say. Our analysts are well aware what the rating agencies’ assessments are and what their opinions are, and they routinely speak to the rating agency analysts because it is important to know when a rating agency may downgrade a given issuer. Our credit analysts are doing their own fundamental due diligence. Under the framework of our own in-house rating scale, we are making an assessment on whether or not we, as investors, are adequately compensated for the risks associated with in investing in a given bond. Q:  Do you have the ability to short the bonds in this fund? A : We cannot short bonds in this fund. We buy protection in Credit Default Swaps for many of our mandates such as our high yield, global corporate bond, and strategic bond mandates. Counterparty credit risk is something that we pay particular attention to which is very important in the CDS world. In U.S. we have migrated to a clearinghouse format, and we think that’s just one step away to eventually going to listing on an exchange and once CDS is traded on an exchange that will finally eliminate counterparty credit risk. We do see CDS as a very useful tool, but for us that is used in other mandates but not in this relatively conservative US Fixed Income Fund. Q:  What is the relevance of the term “total return” in your fund? A : We believe that it is important not to invest just based on yield. We examine what the potential is for price appreciation or depreciation. There are investors that historically have just looked at the stated yield on a corporate bond or mortgage but they haven’t analyzed whether that yield picked up relative to comparable duration Treasuries was sufficient compensation for the credit risk, the structure risk, the illiquidity risk or the pre-payment risk, or for any embedded options (such as the negative convexity risk that exists for mortgages specifically). We incorporate those various considerations and risk premia in our analysis. Consequently, it leads us to not be chronically overweight corporates or mortgages as there are many institutional investors out there that almost never go underweight those sectors and overweight Treasuries. Q:  What are your views on inflation? A : We do not believe that inflation is a threat in the near term. Actually, there may be parts of the economy where there is near-term pressure for deflation. When unemployment rates continue to go up, that puts downward pressure on wages. The Fed is focusing on fighting deflation because the Fed cannot allow deflation to break out as there is too much leverage in the system. So, for the near-term, deflation is the greater worry. What would be important to see is, getting into the last half of 2010 and early into 2011, how quickly the central banks will be able to pull stimulative policies out of the system. We also think that in the next two or three months the 10-year Treasury bond could get down to a 3% yield or just break through to a 2-handle yield. Now, at that point we would be willing to short Treasuries and go short duration because we do think that eventually inflation will be a problem. Q:  Could you give a brief synopsis of your outlook on the market? A : We are very constructive on credit now. We think that the credit cycle has turned and companies are now focused on balance sheet repair by paying down debt. So, we think that the returns in investment grade corporate bonds and high yield will be very good for the next two to three years. In contrast, many governments are increasing their debt exposure. We don’t think that interest rates will go up dramatically this year. But in 2010 and beyond we think investors will become much more concerned about inflation. We do expect a period of some rising volatility during the fall and we are waiting to use that period of spread widening in corporate to add incremental credit exposure and go to our maximum overweight in corporates to set up for what we believe would be strong returns in 2010.