Q:  What is the history and objective of the fund? A : The Russell Strategic Bond Fund, which was launched on January 29, 1993, manages $8 billion in assets. Currently, we have seven portfolio managers as part of the management team. The fund seeks to provide current income as a primary objective and capital appreciation as a secondary objective. Q:  How would you define your investment philosophy? A : We have a set of seven investment beliefs that form the foundation of our investment framework and process. They are as follows – there is a risk and return hierarchy to investment decision making; active management adds value; informed diversification lowers risk while preserving return; there is little predictive power in past performance; efficient implementation improves returns; specialization leads to investment decisions at the point of greatest insight; and independent review and control supports a strong investment process. Q:  Could you expand on those core beliefs? A : The first belief, which is centered on investment decision making, revolves around managers who generate excess returns through security selection, sector rotation, duration/yield curve tilting. Secondly, we believe that active management adds value, which implies that hiring managers who are best-in-class is important in generating additional returns. The third belief seeks a multi-manager strategy by hiring best-in-class managers and binding them together to create an expectation of generating excess return with low volatility. Then, the fourth belief suggests that it is better to use a bottom-up manager research approach instead of solely relying on historical manager performance as manager research gives better insight into the future compared to historical data. The fifth belief is in the need to be focused on a particular aspect, or otherwise performance will not only be impacted by our investment decisions but also by operational and implementation inefficiencies. Our sixth belief is that specialization will make sure that we have an allocation to a manager who is highly specialized. The last part of the cycle is the review and the control of independent reviewers and controllers. We have that through manager compliance and a review team. We also make sure that the manager is capable not only in terms of investment skill but that the operational risks are satisfactory too. We also have another global risk management team which independently reviews the fund risk and profile to ensure that there are adequate alignments in their objectives. Q:  How does your investment philosophy translate into an investment strategy? A : We believe that there are three types of investment decisions that can affect excess returns within the fixed income investing - security selection, sector rotation and duration and yield curve shape expectations. What we mean by security selection is effectively investing in securities that can generate some yield which could be in excess of the benchmark on avoiding default risk. We do not believe in carrying a high level of default risk just to chase outsized yield. Another aspect of generating a portfolio with good risk-adjusted returns is that we also like multi-country relative value interest rate and currency positions. We feel that multi-country relative value interest rate and currency plays can be useful diversifiers to credit risk, and they can add some expected alpha. Q:  What is your research process? A : Our fund is designed to be anchored around U.S. government and agency debt as a core group of securities. Additionally, we look for diversification across various geographies. Thus, our research analysts screen the entire universe of managers that could potentially fit within our buy list. We look at the organizational strength, the size and the quality of the company to make sure that it is sufficient and robust enough to be able to provide investment management in the future. We also probe into the underlying process to determine how they make investment decisions, how they do research, and what buy/sell discipline they employ. In addition, we analyze managers’ returns and the drivers behind their performance data. Is their performance largely driven by more security selection or sector rotation, or is it based on duration or yield curve decisions? We examine these factors along with a few others to consider – overall quality of the manager, and more importantly, we assess that quality on a peer basis. We believe this research process is a lot stronger than simply an investor’s meeting with a manager. By sticking to this approach we seek to find and add leading managers, who are then considered for asset allocation. We prefer face-to-face meetings with potential managers regardless of their locations so that we can see who the best managers are by comparing, contrasting their research notes, and adding them to our database as an organization resource. Q:  How do you build your portfolio? A : Our portfolio construction process is a mix of quantitative and qualitative analysis. There are two parts to the quantitative analysis. The first is a holdings-based fixed income analytics approach which is looking at the holdings that represent the portfolio for a manager. The second component is based on performance, where we take the performance history of various different managers, assuming that their past excess returns, correlations and volatility will be the same going forward. Even though we do not necessarily rely on past performance as an indicator, as mentioned earlier, such a review does give us a certain sense of how risk prone a manager is or where the excess returns have been generated in the past. We then take the return patterns of different managers and make some forward-looking assessments in terms of expected excess returns and tracking errors. Moreover, we get portfolio managers’ views, and from our research analysts we learn how a manager is likely to perform in the future. In the end, we combine that with the performance patterns and the correlations amongst different managers together to develop an optimized portfolio. That provides an indicator of where the portfolio weights should be. On top of all that, there is a qualitative assessment because we do not rely just on numbers. First of all, performance numbers are a very useful tool, but we make qualitative assessments after speaking with fellow portfolio managers or our research analysts. We also get input from a market outlook perspective from our strategists and underlying managers to assess if it is a risk-on or risk-off environment before we take all those outlook perceptions into account to make allocations to different managers. The fund is benchmarked against the Barclays Capital U.S. Aggregate Bond Index. Q:  When do you add or drop a manager? A : There could be short-term or long-term factors which could cause a termination of a manager. For example, a short-term factor could be a change in staff of key personnel. If the lead portfolio manager or the lead investment team were to leave that firm, and if we felt that their departure was meaningful enough, that could immediately lead towards shifting a manager. The second reason why a manager will be dropped is if we determine that there is a drift in their focus or style. We are hiring managers in the fund with the general expectation that they will stay in the fund for at least three-to-five years. Yet, if a manager is drifting from an investment strategy, that could be a reason for us to terminate the manager. Another reason would have to do with diversification of performance. If we felt that a manager was not providing adequate level of diversification, or if there were better options out there to improve diversification, we could terminate a certain manager. The last reason would be performance, and that is something that we typically do for longer-term reasons. As we go through a business cycle we ultimately expect a manager to beat the benchmark, and if the performance was lagging over a business cycle of three-to-five years, then we would be looking to terminate the manager. We typically hire managers that are in the fund on a longer-term basis, and if there is an underperformance due to their style versus market conditions, that would not cause a problem per se. For example, if there was a risk-off environment, more of a short term recessionary shock or contagion risk from Europe, we would typically expect a manager focused on credit, to underperform. However, if it was a normal market condition and if a manager selected some securities that defaulted in a high number, then that would be clearly disappointing. Q:  Would you explain your investment process in more detail? A : Our investment process begins with the view of the market environment and outlook that we develop using our research team. As a further step, we allocate the capital to the best managers we have identified and we go on to build a portfolio that reflects our risk-return views by monitoring the progress in the fund and the managers we allocate to. I express my ideas for the portfolio and seek detailed feedback from my fellow peers on what is good or bad about a certain idea or if they have any suggestions for further improvement in terms of portfolio construction. Essentially, our process leverages the best ideas and knowledge from our global portfolio managers, who put in their best perspectives on the market and individual managers to add value in terms of the overall portfolio construction. As I select the best input from my fellow portfolio managers, research team, and market strategists, I take all that into account with a view towards anticipating what the environment is likely to be in the near future. Then, I use that qualitative input to develop an allocation to different managers who should provide a good level of risk-adjusted returns. We have a team of experienced transition manager experts and a fixed income derivatives trading team who help overlay the fund’s cash reserves to match the interest rate exposure of the benchmark. The investment process is constantly reviewing the market environment and managers by conducting a detailed assessment on their performance, as well as reviewing their risk positions and comparing the structure of the fund versus the expectation of achieving the objectives of the fund. As a whole, the process looks out for any other possible improvements. Q:  What do you consider as primary sources of risk? How do you manage risk in the portfolio? A : We look at risk in two ways – one framework for risk has to do with the managers in the fund and the second aspect pertains to their underlying holdings. We compare a combination of the individual securities held by the different managers versus the benchmark to assess the potential that those risks could add to volatility or how they might contribute to our downside performance relative to the benchmark. In terms of containing individual risk from a manager perspective, we manage risk initially through portfolio construction towards combining managers. Our research analysts are constantly monitoring and interacting with managers to find if the managers are providing the right level of diversification and whether they are on track to achieve the expected return. We have a compliance and operational team, which will assess a managers’ operational perspective. Another form of risk mitigation is through terminating managers or reducing their allocated capital weights to the level that meets our risk budget. Furthermore, we review the underlying holdings to see how appropriate they are for the fund. If we do not like any of the positions a manager has in the fund, we have the right to either fully terminate the manager, change the weightings, change the guidelines for a particular manager’s investing in certain securities or request an outright sale.