Federated Floating Rate Strategic Income Fund (A) FRSAX

Share Classes Product Type Asset Class Category
Mutual Fund Fixed Income Bank Loan
As of 03-31-2018

Market Overview

The primary U.S. dollar-denominated leveraged-finance asset classes produced diverging total returns during the first quarter of 2018, a departure from the correlated quarterly performance patterns experienced for many quarters. The U.S. leveraged-loan market generated another quarter of positive “coupon-like” returns while the U.S. high-yield market posted a modestly negative return. For example, the total return on the Credit Suisse Leveraged Loan Index (CSLLI) was 1.58% while the return on the Bloomberg Barclays U.S. Corporate High Yield 2% Issuer Capped Bond Index (BBC2%HYBI) was -0.86%. Loan risk spreads as measured by the discount margin (3-year) on the Credit Suisse Leveraged Loan Index (CSLLI) contracted, beginning the quarter at 4.16% and ending at 3.96%.

Positive performance from the leveraged-loan market was driven by favorable economic conditions, solid credit fundamental metrics and favorable technical factors in floating-rate debt markets. Healthy employment metrics and tax relief were key variables leading to strong levels of consumer and business confidence. Corporate credit quality remained healthy as leveraged borrowers benefited from good cash flow generation and balance-sheet management, leading to continued modest default experience by historical standards. The demand technical in the leveraged-loan market was strong, driven by positive fund flows and active collateralized loan obligation (CLO) formation during the quarter.

On the negative side, risk markets experienced heightened volatility as investors weighed the strong macroeconomic backdrop against stretched valuations. Investors grappled with rising interest rates and the potential for more fed fund target rate hikes as the Federal Reserve (Fed) shifted its focus from stimulating growth to warding off inflation. In addition, elevated protectionist rhetoric from the U.S. spooked risk markets that are wary of a possible trade war impact. These were key factors that led to negative equity market returns and modestly wider spread levels in the high-yield market.

The three-month London interbank offered rate (Libor), a common benchmark rate for floating-rate assets, spiked higher by over 70 basis points to end the quarter at 2.31%. Despite ongoing borrower refinance activity, the overall interest coupon level in the loan market shifted higher during the quarter. The rising short-term rate environment stimulated increasing investor demand for floating-rate assets, including leveraged loans.

Fund Performance

Federated Floating Rate Strategic Income Fund Institutional Shares had a net total return of 0.87% at net asset value for the three months ended March 29, 2018. On a gross basis, the portfolio return slightly outperformed its blended benchmark during the first quarter. The blended benchmark return is comprised of the following mix: 55% CSLLI; 30% 1-year U.S. Treasury Note Index and 15% 1-Month Libor.

Performance quoted represents past performance which is no guarantee of future results. Investment return and principal value will fluctuate so that an investor’s shares, when redeemed, may be worth more or less than their original cost. Current performance may be lower or higher than what is stated. Other share classes may have experienced different returns than the share class presented. To view performance current to the most recent month-end and for after tax returns, click on the Performance tab.

Click the Performance tab for standard fund performance.

The fund maintained its overweight to the domestic non-investment-grade sector during the quarter, benefiting performance against the blended benchmark. Security selection detracted from performance versus this segment of the blended benchmark as the portfolio’s short-duration high-yield bond holdings underperformed loans during the quarter.

The fund also maintained a slight overweight to the foreign fixed income sector, which consists of trade-finance instruments, loans and corporate bonds from foreign-domiciled issuers. Outperformance of this sector against the relevant sector of the blended benchmark was driven by positive contribution from trade-finance instruments and loans of foreign issuers, partially offset by underperformance from short-duration corporate bonds held in this sector.

Relative performance against the blended benchmark was enhanced by the fund’s underweight positioning to the lower-returning domestic investment-grade sector. Positive credit selection in corporate bonds and loans aided performance versus the relative portion of the blended benchmark.

The fund’s short positions in U.S. Treasury futures contracts contributed positively to overall fund performance, given the rise in interest rates during the quarter.

Click on the Portfolio Characteristics tab for information on quality ratings and the fund’s top 10 holdings.

Positioning and Strategy

Fund assets are allocated across three broad sectors: domestic non-investment-grade (leveraged loans and high-yield corporates); foreign fixed income (trade finance and loan/corporate); and domestic investment-grade (agency mortgage, asset-backed and loan/corporate). Sector allocation and security selection are key drivers of performance relative to the fund’s blended benchmark.

As of the end of the first quarter of 2018, the U.S. credit markets benefited from healthy credit fundamentals and a favorable macroeconomic backdrop. Volatility in risk markets experienced during the quarter could continue given ongoing trade rhetoric and possible rising rates. While higher rates can negatively impact the total returns of longer-duration fixed-income assets, leveraged loans have historically outperformed on a relative basis when economic conditions are healthy. While looser creditor protection standards in leveraged finance markets bear monitoring over time, fund management maintained a constructive view of the U.S. leveraged loan market relative to other fixed income options. The fund remained overweight credit as of the first quarter ended March 29, 2018.

As of quarter-end, the fund maintained short positions in U.S. Treasury futures contracts as part of its duration management strategy.