Re-balance Cycle Reminder All MyPlanIQ’s newsletters are archived here.

For regular SAA and TAA portfolios, the next re-balance will be on Monday, June 6, 2016. You can also find the re-balance calendar for 2015 on ‘Dashboard‘ page once you log in.

As a reminder to expert users: advanced portfolios are still re-balanced based on their original re-balance schedules and they are not the same as those used in Strategic and Tactical Asset Allocation (SAA and TAA) portfolios of a plan.

Please note that we now list the next re-balance date on every portfolio page.

The PIMCO (Dis)Advantages

PIMCO is a fund company that is known to have good bond funds. It’s funds are some of the most favorites among many financial advisors. In addition to its supposed fixed income investing prowess, PIMCO is also known to be adept to utilize derivatives to enhance fund returns. For example, its flagship total return bond fund PTTRX (PIMCO Total Return Instl) has used derivatives to achieve its outperformance, at least before Bill Gross left PIMCO. 

However, PIMCO has also maintained several enhanced index funds that utilizes a combination of derivatives (such as futures on S&P 500) and fixed income portfolios to mimic an index. They believe that given its fixed income skills, such enhanced index funds can deliver better performance than a vanilla index fund in a long period of time. 

We will discuss in some details on these funds. In our several brokerage specific investment portfolios (see Brokerage Investors), we use several PIMCO enhanced index funds. They are mentioned briefly in the following newsletters: 

Let’s first look at the performance and expenses:

PIMCO Fund Comparison (as of 5/19/2016):
Ticker/Portfolio Name Expense Ratio YTD
1Yr AR 3Yr AR 5Yr AR 10Yr AR
PSPDX (PIMCO StocksPLUS D) 0.9% 0.6% -2.4% 9.2% 11.3% 6.9%
VFINX (Vanguard 500 Index Investor) 0.16% 0.9% -0.4% 9.9% 11.1% 6.9%
PETDX (PIMCO Real Estate Real Return D) 1.14% 6.7% 11.1% 4.7% 12.4% 9.7%
VGSIX (Vanguard REIT Index Inv) 0.26% 7.0% 11.9% 8.0% 11.3% 7.5%
PPUDX (PIMCO Intl StkPLUS TR Strat (Unhedged) D) 1.04% -3.5% -16.6% -1.9% 2.6%  
EFA (iShares MSCI EAFE) 0.33% -3.0% -13.5% -0.2% 1.8% 1.0%

From the table, for the past 5 and 10 years, PIMCO funds have outperformed or matched (in the case of US stocks, the first two rows) their index fund counterparts. However, for US stocks, US REITs and international stocks (last two rows), they have done worse for the YTD (year to date), 1 and 3 years.  Or simply put, the performance of PIMCO funds have declined recently. Should investors be concerned about this?

In terms of cost, PIMCO funds are way more expensive than index funds, as can be seen in the first column. 

For investors, that means PIMCO funds not only need to outperform their index counterparts, but they need to outperform a lot, more than the extra expenses they charge so that their performance after net of fees is better. 

Pros and cons

In general, the PIMCO approach (i.e. derivatives to track an index plus remaining cash invested in a fixed income portfolio) has the following pros and cons: 

  • The cost of derivatives can be a performance drag. This is especially true for futures that can suffer from so called contango: a futures price can be a lot higher than its normal expected price, making it expensive to purchase and roll to a new contract when the current one expires. Simply put, derivatives can become too expensive to use when speculation is rampant. 
  • The error that a derivative tracks its underlying index, the so called tracking error. Of course, an error that makes a derivative better than its underlying index is welcome, but it could happen the other way around too. 
  • The underperformance of the fixed income portfolio. This is often a major source of performance deviation.

Recent underperformance

Upon a closer examination, we make a conjecture that PIMCO’s fixed income portfolio has not done well, thus distracting the performance of all the above enhanced index funds. The following is the sector exposure of PSPDX’s fixed income portfolio in the fund’s latest (March 31 2016) quarterly holding report

This sector exposure has been consistent with PIMCO’s recent investment thesis: positioning for a rising rate environment and overweighting in credit investment. Unfortunately, the thesis has not worked well so far. For example, PIMCO total return bond fund also underperformed: 

PTTRX Performance
Ticker/Portfolio Name YTD
1Yr AR 3Yr AR 5Yr AR 10Yr AR
PTTRX (PIMCO Total Return Instl) 2.7% 3.4% 1.8% 3.5% 6.1%
VBMFX (Vanguard Total Bond Market Index Inv) 3.9% 4.2% 2.5% 3.4% 4.9%

What’s more, not shown in the above table, PIMCO, expecting a gradual rate hike and reasonable positive economic backdrop, took an extremely short duration exposure. This basically reduces its fixed income portfolio return dramatically. In fact, taking the overall futures’ cost and its fixed income’s returns together, the overall effect is that it underperforms its main index, in this case, S&P 500. 

To summarize, the recent underperformance of PIMCO’s enhanced index funds is mostly due to its ill timed call in fixed income side. What we learn from this recent experience is that such enhanced index funds can only be used as secondary candidate funds, even though in a long term, they can add extra value. That is why in our brokerage core mutual fund portfolios such as Fidelity Core Mutual Funds., we also include other vanilla index funds so that our portfolios will not be impacted dramatically by these enhanced index funds when they go awry. 

Market Overview

By now, with 91% of S&P 500 companies reporting Q1 2016 earnings which indicated a -7.1% decline, it is almost a forgone conclusion that Q1 2016 marks a fourth consecutive earning decline quarter and a third consecutive sales decline quarter (based on Factset, revenue declined -1.7%). What’s more, Bloomberg reported that corporate buyback, the largest stock buyer in the recent years, has pared down its planned stock repurchase. As summer has officially begun, the sluggish global economy continues. 

For more detailed asset trend scores, please refer to 360° Market Overview

We would like to remind our readers that markets are more precarious now than other times in the last 6 years. Since the financial crisis in 2008-2009, we have not seen substantial structural change in the U.S., European and emerging market economies. Even though U.S. stocks have had a recent correction, their valuation is still at a historical high level.  It is thus not a good time to take excessive risk. 

We again would like to stress for any new investor and new money, the best way to step into this kind of markets is through dollar cost average (DCA), i.e. invest and/or follow a model portfolio in several phases (such as 2 or 3 months) instead of the whole sum at one shot. 

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