PIMCO Investment Managers Tell SCERA They Expect Debt to Bounce Back in 2023

The $3.2 billion Sonoma County Employees’ Retirement System’s investment committee heard a discussion about the current state of fixed income.


The first meeting of the Sonoma County Employees’ Retirement System investment committee, on January 26th, welcomed PIMCO’s Marc Seidner, managing director and CIO of non-traditional strategies, and Matt Clark, senior vice president and account manager for a presentation providing an organizational update on the performance and positioning of the core-plus-fixed-income portfolio the firm co-manages for SCERA.

“Looking back on 2022, I could not wait for New Year’s Eve,” Seidner said; reflecting on the dominant economic story of 2022, runaway inflation, that ended up not being transitory, as he looked ahead to 2023. “Inflation, in our view, will be 3%, the CPI will be 3% and the personal income expenditures, the Federal Reserve focuses most on, will be 2-2.5%, by the end of 2023.”

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The consistent downward trends that frustrated most Americans yielded similar frustration for investment managers.

“You can count on one hand the number of times that stocks and bonds both yielded negative [annual] performances,” proclaimed Seidner of 2022’s unusual outcomes. He explained that persistent sticky inflation is primarily due to the ample fiscal stimulus unleashed worldwide in a crisis response to the COVID-19 pandemic, which, Seidner said, “differs greatly than any other [financial] crisis,” because the response and remedy to the pandemic were more focalized around monetary policy, as opposed to fiscal policy.

Seidner contended that supply dynamics continue to contribute to inflation, specifically in the agricultural space and energy sector due to Russia’s invasion of Ukrainian. “Our commodities people are wildly bullish—perhaps [that’s] an overstatement, but they are bullish—on the space [and the macroenvironment for those sectors].”

The presentation emphasized that the core bond portfolio of the plan has beaten the Bloomberg US Aggregate Bond Index during eight years over the past decade. In delivering outperformance against the benchmark in 2022, PIMCO’s staff positioned away from duration risk. “We were less overweight in interest-rate exposure last year, delivering modest outperformance, [despite it being a] horrible year for the bond market and a bad year for the stock market,” said Clark.

Seidner reflected on inflation and the investment universe of 2022, noting that it is highly unlikely that the Fed will raise rates another 4 -4.5% this year, meaning portfolios should perform better. In such a scenario, fixed income should return to providing principal stability, as it is normally formulated to do.

With 10-year yields sitting around 3.5%, PIMCO’s managers concluded that when an investor can yield 5% in cash-like investments, with an inverted yield curve, the way to position the fixed-income portfolio, and the way they are positioning their portfolio, is to be underweight interest-rate exposure; arriving lower along the duration curve, underweight longer duration fixed income; and overweight shorter duration fixed income.

“With general interest rates hitting 5% around the March Fed meeting [according to our projections], a real rate of return of 2% would be accessible, which is pretty attractive to where we have been recently,” Seidner said.

Before concluding the conversation, Seidner and Clark were asked by the investment committee members what a technical default of U.S. debt would entail for the fixed-income market. The committee members noted that political pressure is mounting, given Congressional posturing over raising the federal government’s debt ceiling. Additionally, Saudi Arabia earlier this month announced it is open to discuss trading and completing contracts in currencies other than the U.S. dollar.

Seidner responded that he was unsure if a technical default on the U.S. debt would be a cataclysmic event for markets or a non-event. Referencing 2011, when U.S. debt was downgraded by credit agencies during a similarly Republican-led debt-ceiling standoff, Seidner said, “Bonds, actually, ended up three percentage points. And given that data point, to be honest with you, I have no idea what the markets’ reaction to that would be.”

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