High-grade portfolio managers are only slightly positive at best in their outlook for the corporate bond market, even if the war goes smoothly. They still question the health of the U.S. economy, which they believe will continue to limp along regardless of what happens in Iraq.
In addition to geopolitical risks, corporate governance issues and anemic growth in many sectors make it difficult to get too bullish on corporates, says Joe Marvan, portfolio manager of $45 billion in U.S. taxable fixed-income at State Street Global Advisors in Boston. Even in the best of scenarios in Iraq, State Street would add no more than 5% ($700 million) to its corporate exposure in its actively managed portfolios. Those portfolios were neutral versus their benchmark index last Thursday. State Street is more focused on looking for shorting opportunities through the purchase of credit default swaps. Falling oil prices may present a shorting opportunity in Kerr McGee, an oil and gas exploration and production company, Marvan says. Similarly, State Street will continue to short Sears Roebuck, on the view that a protracted conflict would further weaken consumer spending.
The risk of an extended war and a consumer pullback are reasons to be underweight corporates, according to Napoleon Rodgers, portfolio manager of $150 million in fixed-income at Alpha Capital Management in Detroit. Rodgers says Alpha will likely remain underweight corporates even if the war ends quickly. "Admittedly there's spread, but I sometimes view spread as a trap, especially if you're moving into an uncertain environment as we are now," Rodgers says.
Carlos Veintemillas, who manages $7 billion at the Texas Permanent School Fund in Austin, will look for improvement in earnings before adding to his corporate allocation. He says he is not concerned with the war or any effect it may have on the equity market in managing the fund's portfolio. "The equity market tends to react to non-fundamental issues. The bond side looks at balance sheets and income statements," he says.
More bullish is Tim Policinski, portfolio manager of the $1.6 billion Fort Washington Investment Advisors in Cincinnati. Policinski is prepared to sell Treasuries and add 3-6% to duration, or at least $50 million, to his corporate bond portfolio, as 10-year Treasury yields back up to the 4.25-4.5% range.
