Pimco rolls out GDP-based bond index funds

Fixed-income specialist Pimco is preparing a marketing push around a series of actively managed funds that will track a new set of investment grade bond indices that the fund manager developed last year.

The firm is establishing funds on its US and Dublin platforms, although it can replicate these in other jurisdictions if there is client demand. The index calculations began this week and Pimco will launch the US version on February 15, soon followed by the Dublin-based one which is marketable to investors in Asia-Pacific.

"The index funds will promote the concept of the new index," says Douglas Hodge, managing director for Asia-Pacific in Tokyo. "As markets evolve, we think something like this index can become the universal benchmark of the world's bond markets." He hopes to appeal to early adopters but says it will take time for institutional investors, distributors and investment consultants to embrace the new concept.

The Global Advantage Bond Index, "Gladi" for short, is based on market GDP rather than on capitalisation. The problem with the Lehman Agg, which has been the defacto standard for the past decade, is that the more a sovereign or corporation issues, the bigger its representation in the index - a fact that has often meant a poorly performing benchmark. Japan, for example, has been the biggest issuer of government bonds (at least until now), as it tried to borrow its way out of 13 years of stagnation.

This meant JGBs comprised around 20% of the Lehman Agg, but any fund manager that kept to such an allocation would have massively underperformed their peers. Pimco's Gladi, on the other hand, is taking a page out of the 'fundamental' equity index book in order to create an index that more accurately reflects the way bond managers today think, says Hodge.

He claims backtesting suggests Gladi would have provided an additional return of 60 basis points on an annualised basis over the past 10 years against the Lehman Agg. For example, Gladi gives prominence to emerging-market issuers (bar those with capital controls such as India and China), which have been the biggest drivers of economic growth but are barely represented in the Lehman Agg.

Gladi will also be reweighted more frequently, on a monthly basis, to capture growth and debt issuance. Moreover, Gladi has no direct exposure to Treasuries. Rather it benchmarks off swap rates in order to generate nominal duration exposures to government bonds.

The inclusion of swaps and other derivatives, as well as inflation-linked securities, makes the index reflect how bond managers take exposure to government bonds in real life, Hodge says. Moreover, a GDP-weighted approach is intended to provide investors with exposure to high-growth markets that are in the process of liberalising their capital markets, rather than over-expose them to fiscally imprudent, low-yielding developed-country governments.

The battering across high-quality investment grade debentures, including triple-A rated corporate bonds, asset-backed securities and emerging market debt makes this an opportune entry point for investors, he adds.

Gladi is organised around three categories, duration (nominal and real), credit and securitisation, with currency a fourth, passive characteristic. US issuance comprises around 27% of the index, Europe 23%, Japan 10%, other industrialised countries 12% and emerging markets 28% (which includes local currency issuance). Gladi can also be sliced and diced according to region or category.

Hodge acknowledged there is uncertainty whether rival fund managers will opt to track an index with Pimco's name on it. But he says the firm will not derive any financial gain from licensing the index. Pimco provides the analytics but the day-to-day pricing and calculations are done by Markit, which runs the i-Boxx series, among others.

"Will other fund managers use something with the Pimco name on it? We'll see," Hodge says, noting that traditional providers of indices - which would include Citi, Merrill Lynch and of course Lehman Brothers - are all facing challenges to their businesses, or don't exist anymore (the Lehman Aggregate series was purchased by Barclays).