Federated Floating Rate Strategic Income Fund (R6) FFRLX

Share Classes Product Type Asset Class Category
Mutual Fund Fixed Income Bank Loan
As of 12-31-2017

Market Overview

During the fourth quarter of 2017, leveraged-finance asset classes delivered positive returns.  This included the domestic leveraged-loan market, which delivered another “coupon-like” return for the three-month period. For example, loan risk spreads as measured by the discount margin (3-year) on the Credit Suisse Leveraged Loan Index (CSLLI) contracted, beginning the quarter at 4.32% and ending at 4.16%. Accordingly, the return of the CSLLI for the fourth quarter ended Dec. 29, 2017 was 1.17% driven primarily by the current income stream generated by leveraged loans. 

Positive performance from leveraged-finance assets continued to be driven by favorable economic conditions, solid credit fundamental factors and a more optimistic climate for risk assets overall. The U.S. economy continued to benefit from strong employment metrics as well as encouraging levels of consumer and business confidence. Healthy indicators from other regions further enhanced the case for a global synchronized economic expansion, which appeared to be gaining steam as 2017 came to a close. Corporate credit quality remained healthy in this environment as leveraged borrowers benefited from good earnings and solid cash-flow generation, leading to continued modest defaults by historical standards. December’s passage of tax reform in the U.S., coupled with the Trump administration’s determination to curtail regulatory burdens, offered more fuel for business optimism. In general, risk assets performed well given this backdrop as equity markets marched higher in the fourth quarter.

Tempering some of the enthusiasm from strong credit and macro conditions, valuation metrics at year-end were less compelling as credit risk spread levels sat inside of historical averages. 

The 3-month London interbank offered rate (Libor), a common benchmark rate for floating-rate assets, spiked higher and finished the quarter at 1.69%. At this level, 3-month Libor exceeded the average “floor” rate in the U.S. leveraged-loan market, and coupon resets should result in higher income levels.

Fund Performance

Federated Floating Rate Strategic Income Fund Institutional Shares had a net total return of 0.65% at net asset value in the fourth quarter. On a gross basis, the portfolio outperformed its blended benchmark during the period. 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, which benefited performance against the blended benchmark. Security selection detracted from performance versus this segment of the blended benchmark as lower quality tiers of the CSLLI outperformed 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. Softer performance generated by short duration corporate bonds partially mitigated this outperformance.

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 modestly to overall fund performance 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 fourth quarter, the U.S. credit markets benefited from a healthy economic backdrop and solid credit fundamentals. While credit risk spreads in the loan market tightened further and valuation metrics were less compelling, these levels are indicative of the favorable credit environment with relatively muted default experience. While tax reform should favor US corporations generally, certain leveraged borrowers may be impacted negatively in the short run given limits on interest expense deduction. Longer term, this could result in corporate borrowers optimizing their debt structures at lower financial leverage levels. Finally, the maturation of the current credit cycle and looser creditor protection standards in leveraged-finance markets bear monitoring. Based on fund management’s view of the fundamental and macro drivers in the U.S., the fund remained positioned overweight credit as of the end of the fourth quarter.

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