Running Head: Group #1 Debt Markets Portfolio Simulation Deliverable #1

Group #1 Debt Markets Portfolio Simulation

Deliverable #1

Introduction:
Group #1 Debt Markets Portfolio Simulation Deliverable #1

As a group, we collectively decided to construct an Investor Policy Statement (IPS),

which contains our investment objectives and constraints. In doing so, we gleaned two benefits:

1) set clearly defined agreed-upon expectations with our client and 2) assist in conducting future

investment decisions. The IPS is located in the appendix section and our initial writeup will

allude to the IPS, as it serves as the building-block for our underlying investment strategy and

asset allocation methodology.

Investment Strategy:

The Premier FI Group (“Fund”) has attracted inflows from several pension and

endowment funds. In total, the Fund manages $200m dollars that invests in various fixed income

areas to ensure capital protection with steady investment income for future cash flow liabilities

of retirees. Conventional bond funds typically invested in conservative fixed-income securities

such as US Treasuries and investment grade bonds. Our strategy can be bifurcated into two

domains: 1) we attempt to achieve bond immunization by matching our assets duration with our

client’s liabilities and 2) achieve greater total return by bond laddering with an emphasis of high-

yield corporate debt. In addition, we explore more sophisticated investments e.g. medium-term

notes (MTNs). The bond laddering will allow for increased liquidity with predictable returns and

re-investment opportunity.

Capital Market Expectations

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Financial markets have undergone a substantial sell-off fueled by the rising fears of the

novel COVID-19 (“coronavirus”) impact outside of China and the overall global economy. As a

result, the Fund has revised its previous estimates surrounding the health and robustness of the

real and financial economy due to lost manufacturing production and supply chain constraints.

For instance, China’s purchasing managers index (PMI) fell to a record low figure of 35.7 in

February from 50 in January. The narrative becomes bleaker when examining the non-

manufacturing PMI, which also tumbled to new lows of 29.6. These key statistics indicate an

immense contractionary period for the Chinese economy. Coinciding with plunging stock

markets, investors have been flocking to safe-haven assets e.g. as well as to default-free assets

e.g. 10-year note. The increased demand for US Treasuries has led to depressing yields. In fact,

Treasury yields on the 10-year note and 30-year bond have fallen to historic levels of 1.156%

and 1.65%. This reflects the massive unknowns behind force majeure clauses in fixed income

and equity investments alike. If one avoids looking at one’s equity investments, the effect of

COVID-19 presents a unique opportunity to observe and strategize against previously unforeseen

global market events. The Fund anticipates a 25bps to 50bps rate cut by March 18 th, 2020. Our

sentiment is reaffirmed by other market participants, especially when gauging the CME’s

FedWatch Tool citing a 100% probability the Fed will cut rates. Even a more conservative

estimate from Goldman Sachs of 95%, provides a high probability of a rate cut in the coming

weeks. A rate cut would be beneficial to bond prices since prices and yield share an inverse

relationship. The Fund foresees the next two weeks as a period of great volatility in financial

markets. The CBOE Volatility Index (“VIX”) has increased four-fold within the last several

trading days. recently closing at 40.10. As a result, we have established a bond portfolio with

relatively low correlation to the stock market. While it is difficult (nearly impossible) to predict

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the future, the Fund believes that the portfolio is well poised to withstand uncertain market

conditions. The next correspondence will be in two-weeks. During this time, the Fund anticipates

gaining accrued interest on coupon-bearing bonds and unrealized capital gains in the form of

price appreciation from anticipated rate cuts.

Rationale for Positions:

Please find the composition of our portfolio labeled Appendix B. The first goal of the

fund is to ensure that bond immunization achieved. The portfolio was constructed to have our

asset’s duration match our clients’ liabilities duration. Our client’s duration is approximately

4.00. As can be seen below, the Fund achieved a modified duration of 3.99. essentially achieving

an immunized portfolio. The underlying securities are diversified between multiple sectors,

varying credit ratings, and structures of cash flows. Rather than match specific cash flows, the

Fund protects the bond portfolio’s market value. The second goal is to seek greater total return,

which the Fund is attempting to achieve by overweighting high-yield debt and medium-term

notes. We have reserved ~ 5–6% in cash and money market reserves to provide adequate

liquidity.

Key Portfolio Statistics:

The following deliverables will include portfolio performance and risk attributions to

analyze our positions and the overall success of our strategy. A prelude (not as in-depth) of the

portfolio statistics can be found in appendix B. We have provided a list of portfolio measures we

plan on implementing maximum drawdown, VaR, Sortino ratio, etc.

Appendix A:

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*Derived from Bloomberg

Appendix B: