Q:  What is the history of the fund? A : The fund invests in investment grade bonds with a small exposure to high yield bonds. It is designed to take advantage of our research capabilities in stocks, bonds and international markets and leverage our deep knowledge of securities and sectors we have been tracking over the years. The fund was launched on May 1, 2007 and it is benchmarked against the Barclays Capital U.S. Aggregate Bond Index. We call the portfolio “core opportunistic” because we have a max of 10% in high yield bonds. It is a team managed fund with about $135 million in total net assets and it has also experienced positive cash flow in the last six to twelve months. Q:  Can you describe your asset selection process? A : Primarily, the top ten holdings in the portfolio have to do with the combination of portfolio construction and risk control. The fund invests in U.S. dollar denominated securities. All the broad sectors that will be represented in the portfolio include government securities, corporate debt securities, mortgagebacked securities and asset-backed securities. For instance, in late 2008 when there was extreme panic, both mortgage-backed securities and investment grade corporate bonds fell significantly below their intrinsic values. However, we believed that on a valuation and a fundamental basis investment grade corporates were cheaper. They had a higher expected excess return. On a top-down basis we felt mortgages are attractive but corporate bonds are more attractive based upon their fundamentals and the spread, the excess return that we are likely to get. We liked mortgages because the government was going to buy them to keep rates down. We thought we would see a rally there and we certainly have. It is basically a discounted valuation that is offered us an opportunity and therefore it had higher weighting. We would never exceed more than two times weighting to the index which is what where we are at in investment grade corporate bonds. Q:  What is the guiding principle behind your investment philosophy? A : There are two ways to generate excess returns in a bond fund. One is to take a view on the interest rate and the other is through securities selection based on rigorous research. We prefer to take a deep dive in learning companies and sectors we invest in. The capital appreciation of the securities we invest in is the craft we know the best and we leverage that to generate consistent returns. We seek to outperform the Barclays Capital U.S. Aggregate Bond Index by maximizing total return through a combination of income and capital appreciation. Q:  What are the inefficiencies perceived in the fixed income market and how does your fund take advantage of those inefficiencies? A : There are structural inefficiencies in the fixed income market and many reasons why an active manager can find securities that are mispriced to his advantage. The rating agencies’ bias and the hard division between investment grade and non-investment grade bonds are only two examples of this. The rating agencies are biased against new industries, in other words an industry that is only 15 years old in terms of issuing unsecured debt in the general bond market as opposed to utilities that have been issuing bonds for over 80 years. The rating agencies give lower ratings to smaller companies or newer industries and are slow to upgrade them. Secondly, there are inefficiencies with investment guidelines and that is primarily a solid line between BBB and BB rated corporate debt that is drawn by many pension funds, institutions, and consultants. This creates an opportunity for investors who have a view on the industries and companies that are not rated investment grade but are likely to graduate to. Thirdly, there are also inefficiencies such as large fund manager constraints, meaning that smaller fund managers can buy a $5-million or a $10-million block of a certain security whereas for large fund managers that may not work for their portfolios. It may not be large enough to spread around holdings in a portfolio to dedicate research capabilities to it. We feel that meaningful excess return can be achieved through exploiting inefficiencies in the fixed income markets through active management. Q:  Is there any reason for not taking a duration bet? A : It’s probably more of a philosophical orientation that securities or sectors can get mispriced and that’s a better risk return tradeoff than calling rates. Our approach to making money is more bottoms up that focuses on securities and sectors rather than guess the direction of interest rates. Q:  How does your investment philosophy translate into an investment strategy? A : We like to invest as opposed to trade and we are prepared to hold securities between one to three years. Our strategy uses experienced sector specialists who seek to identify and capitalize on inefficiencies like rating agency bias, investment guidelines and large manager constraints in bond markets. We prefer to underweight compared to our benchmark in Treasury security and overweight investment grade corporate or mortgagebacked securities. The current strategy has been to overweight in mortgage-backed securities because of government demand and in investment grade corporate bonds given their mispricing and valuations. Q:  What are your sources of new ideas? A : We look at factors such as asset allocation, philosophy, strategy and process. We tend to think of fixed income not just in terms of its literal meaning but in a holistic sense of the capital markets and where we are at in an economic cycle, a credit cycle and with a valuation process or a valuation cycle. New ideas can come about from a variety of places. An idea can emerge from our experience in investing in high grade and high yields, in managing fixed income or from a new issue or a morning meeting in our office, where we meet every day to talk about news, economic situations, and new stock ideas. An idea can also come from Wall Street or our sales coverage. There’s no one best way to come up with an idea but it is good that they come about from a variety of sources. We have been highly integrated into the equity team. We look at equity valuations and multiples to operating earnings in terms of LBO business and even bonds issued by international companies. Investing in international companies bonds that trade in the U.S. is one of the predominant themes in our investment strategy in the past few years because of our research capabilities in that area. Q:  What is your research process and can you give us examples that highlight your research objectives? A : We believe in exploiting the inefficiencies in the bond market by utilizing a disciplined investment approach. The total return strategy is built around experienced sector specialists, who apply a bottom-up fundamental analysis. The two primary performance factors are security selection and sector weights. To a lesser extent, top-down analysis, duration and yield curve positioning are incorporated with their style. Sector specialists are responsible for the bond holdings in their sector and are ultimately looking for the best relative performance opportunities on a risk-adjusted basis. These specialists are supported by the resources of the fixed income investment team. Our research process hinges on our familiarity with industries, companies, sectors and managements. Our team consists of four investment professionals leveraging the entire international and domestic equity teams which is probably fifty investments professional strong between research, trading and portfolio managers. We use third party outside vendors for research as well. While we use some of the rating agency research, we rely heavily on our own experience and then on being integrated into a platform that has a lot of depth of knowledge, contacts to managements, industries, companies. We blend that with our fixed income knowledge expertise and our view of the fixed income market. The research process is essentially qualitative in nature and we like to delve into balance sheet fundamentals. The fundamentals reveal to us the ability of the company to repay debt on time and the financial strength to withstand business cycle volatility. Additionally, we look at technicals. Essentially, our research process is a combination of fundamental and technical analyses and the review of short term capital flows in the sector and valuation of credit. The change in capital fund flows pattern can have a significant impact on the valuation and liquidity in the market. So we like to keep a close watch on these developments. The difference between an investment grade (BBB) and a high yield (BB) corporate bond often comes down to an industry, sector or a company. There are a lot of similarities between companies that issue debt but the familiarity of the industry, the cash flow predictability and macro-economic experiences can help the companies to improve their standing in front of investors. The sustained improvement in the company and industry fundamentals can help the company and the sector to be re-rated from the below investment grade to investment grade. For instance, in the cable television sector, Comcast was once below investment grade and the bonds from the company were rated below investment grade. A lot of these companies have grown up and the familiarity gives a comfort level in investing in companies even though the rating agencies may not have changed their views. As long as cash flow metrics are improving, the companies are likely to improve their ratings. The same rings true for homebuilders. The homebuilding industry was a unique cottage industry which was well below investment grade but, gradually, with the housing bubble they became investment grade companies. Now they are back down below investment grade. Our research process involves the fixed income team’s knowledge spanning more than twenty-five years of investing in investment grade bonds. For example, B/E Aerospace, Inc is a small cap company, so we talk to the industry research analyst who provides us with the aerospace industry cycle and to the small cap equity fund manager who helps with the company business fundamentals, and then we apply the high yield bond investment research. This three-way approach not only helps us to develop a comprehensive outlook for the company and the sector but it also facilitates the valuation process. It is getting inputs at various levels and from various people that we value and trust that helps in developing a broader perspective on this company. Q:  What is your buy and sell discipline? A : The process is very qualitative in nature, based upon fundamental, technical and valuation. We have a belief that “your first sale is your best sale.” We are inclined to sell something if we believe in any way there is a fundamental problem with any security we own. We would also say that on balance, over a long period of time we’d rather own securities with higher yield like corporate bonds or mortgage-backed securities as opposed to Treasuries. Over a longer period of time a portfolio of higher yield assets will generate a rate of return advantage compared to the benchmark. We have to be constantly in touch with where liquidity is and with the risk taking sentiment of other investors. We use our historic understanding of companies, markets and cycles to determine what is attractive. However, over the last couple of months, clearly the game has been to buy new issues because many of them have been very attractively priced owing to market conditions. Sometimes the market moves very quickly so we have to be ready for the inflection points at any moment. While we were never too overweight in homebuilders or REITs, fortunately we sold them in advance. Q:  Would you describe the portfolio construction process along with the risk controls that are in place? A : The fund is invested primarily in investment grade securities. Investment grade securities are those rated in the highest four categories by at least one of the three nationally recognized statistical rating organizations - Fitch Ratings, Moody’s Investors Service Inc. and Standard & Poor’s, a division of The McGraw-Hill Companies, Inc. The Fund will also have the flexibility to hold 10% in non-investment grade holdings (bonds typically rated BB or B or lower). The duration of the fund is a range within one year longer or shorter than the average duration of the benchmark, the Barclays Capital U.S. Aggregate Bond Index. We want to own a portfolio that has a higher proportion of securities with a yield advantage that will translate into a total rate of return advantage versus the benchmark. From a portfolio construction or a risk control dimension, we don’t want to be overweight more than two times compared to the benchmark. We keep the fund duration within the 10% range from the benchmark duration and we also look at tracking errors, but we think that it is more backward looking. We also look at exposure to sectors that are not in the index and we generally do not exceed more than 5% of portfolio. As we keep corporate bond exposure limit to each position to 1% limit, for agency bonds we do not apply any limit because we view them as risk free securities. The last risk control tool is the sell discipline. Again, we operate with a strong belief that the first sale is the best sale.