Federated Global Total Return Bond Fund (IS) FGTBX

Share Classes Product Type Asset Class Category
Mutual Fund Fixed Income ; Intl/Global Global
As of 12-31-2017

Market Overview

Introduction to the fourth quarter of-2017

During the final quarter of 2017, the more that asset valuations changed, the more that implied volatility levels remained the same—surprisingly low. Despite political unrest in Spain, alterations by the European Central Bank (ECB) to its legacy quantitative-easing (QE) program and a bout of high-yield weakness, volatility in developed markets remained remarkably subdued across most asset classes.  Once again, these conditions proved to be fertile ground for equity markets, which continued to defy gravity and post record highs.  In the fourth quarter alone, the MSCI World Equity Index (MXWO) extended its gains by an impressive 5.40%.  Meanwhile, the flagship bond index, the Bloomberg Barclays Global Bond Aggregate Index (LEGATRUU) gained 1.08%, largely due to ongoing euro appreciation against the U.S. dollar (unhedged).

The U.S. dollar’s performance varied throughout the reporting period and was generally mixed and idiosyncratically driven. For instance, the ongoing recovery in Europe allowed the euro to appreciate further in the fourth quarter by an additional 1.62%.  In contrast, both political and NAFTA tensions weighed heavily on the Mexican peso, which depreciated by 7.14% during the reporting period.  By December, the U.S. Senate approved the tax-cut legislation and the House of Representatives shortly followed suit; this brought President Trump his first major legislative victory.  Subsequently, Treasury yields climbed to a nine-month peak in response to the tax overhaul and core European borrowing costs rose in concert as well.  Ironically, despite the fiscal advancement, the U.S. dollar endured losses, but the scale of its decline was more subdued.  Specifically, the U.S. Trade Weighted Broad Dollar Index (USTWBROA) declined by 0.19% in the fourth quarter of 2017. 

In a broader context, the U.S. dollar forfeited ground to every single major economy by the close of the 2017 calendar year. Among the major currencies, the euro was the top performer, garnishing a 14.15% return against the U.S. dollar; an astonishing feat considering that the euro is still technically a funding currency.  The dollar’s losses last year were substantial, even when mapped on a historical basis.

Japan:

It was a fairly subdued three-month period for Japanese economic developments, with the exception of one episode. The Liberal Democratic Party (LDP), led by Prime Minister Shinzo Abe, won the Lower House election held on October 22.  The LDP gained 283 seats; a much better outcome than previously expected and preserved their super majority.  The election results greatly increased the probability that Prime Minister Abe will continue to lead the country until 2021, and leave his ultra-accommodative economic policies fully intact.  Consequently, the Japanese yen lagged most other developed currencies and was down 0.16% in the quarter while benchmark bonds gained 0.41%.

Commodity Linked Countries:

The local bond markets of Australia, New Zealand and Canada outperformed most of their developed market equals; however currency weakness did detract somewhat from the net total returns of all three economies. For instance, the Reserve Bank of Australia (RBA) kept its cash rate unchanged at 1.50%.  There were no significant changes to the RBA’s statement which maintained its view that the economy remained on a path of recovery, but did note that a stronger AUD was weighing on output.  This viewpoint on the Australian currency contributed to its modest 0.32% loss during the quarter.  On the other hand, local benchmark Australian bonds procured a 1.65% gain during the reporting period.

Mirroring Australia, benchmark Canadian bond total returns were also slightly mired by currency losses (if left unhedged).  Canadian bond markets returned 1.17%, while the currency lost 0.79%.  From an economic standpoint, Canadian CPI edged higher by 0.2% but disappointed the general forecasts that were anticipating a 0.3% increase.  Additionally, the Bank of Canada maintained its key interest rate at 1% and signaled caution against future increases.

During the quarter, currency weakness among the commodity-bloc economies was most pronounced in New Zealand. The New Zealand dollar (NZD) was the second-worst performing G10 currency during the reporting period.  The main market driver in New Zealand during the reporting period was almost entirely political in nature and had little to do with economics.  The catalyst behind the currency weakness was largely due to the country’s incumbent National Party losing power after a competing faction declared that it would form a government with the Labour Party.  This announcement capped a stunning rise for the Labour group which won the office for the first time in nine years.  This new regime was on the record for slashing immigration, reducing offshore ownership and also changing the RBNZ’s mandate.  Specifically, the NZD declined1.54% in the fourth quarter of 2017.

U.K.:

The U.K. economy grew more than expected in the fourth quarter of 2017. This uptick in growth further increased the likelihood that the Bank of England (BOE) would raise interest rates.  Contradictorily, U.K. retail sales fell at their fastest pace since the depths of the recession in 2009.  The U.K. has the weakest growth among the G10 economies, yet the BOE appeared adamant on increasing key interest rates.  And raise they did.

Early in the fourth quarter, the Monetary Policy Committee (MPC) raised the Bank Rate by 0.25%, the first hike in 11 years. Specifically, the Committee voted 7 to 2 in favor of a hike.  The message from the MPC, however, was somewhat restrained pointing to the slowing pace of growth relative to pre-Brexit averages.  This reserved outlook had a negative impact on the British pound and also dropped 10-year government bond yields by 15 basis points.  However, as the month drew to a close, rumors of a Brexit accord with the EU began to surface.  On inference and speculation alone, the GBP skyrocketed nearly 2% in a matter of hours and ended the fourth quarter up 0.86% against the U.S. dollar.  Also, benchmark U.K. bonds procured a 2.03% local return during the reporting period.

Europe:

The improving economic trend in Europe continued to impress on multiple levels. Factory orders, for example, grew further, rising by 1.0% and generally beat expectations.  Separately, Italian GDP, which has lagged, finally began to accelerate and catch up with the euro area's cyclical upswing.  In Spain, growth came in at 0.8% (3.1% year-over-year); this marked a slight sequential deceleration, but remained robust nonetheless in absolute terms. 

Perhaps the biggest events in the fourth quarter for Europe were once again politically driven. For starters, and despite Madrid's opposition, the regional Catalan Parliament in Spain voted on a unilateral declaration of independence (DUI).  This action triggered a political crisis in the country, but remarkably the effects were fairly muted on both the currency and peripheral EU bonds.  For instance, benchmark Spanish bonds actually gained 0.50% in the quarter.

Germany was plunged into political uncertainty after talks to form the country's succeeding government collapsed. The outcome dealt a blow to Angela Merkel and roused questions about the future of the longtime chancellor.  Remarkably, market impact was muted once again.

During the reporting period, the ECB’s rhetoric could have been paradoxically described as being “dovishly hawkish”.  In late October, the ECB matched overall market consensus with precision by keeping the deposit facility rate unaltered at -0.40% and benchmark rates at 0.0%.  However, the central bank decreased its monthly bond buying program by half to 30 billion euros, but simultaneously extended it by 9 months.  The ECB’s action was regarded mildly bearish for the euro and bullish for German bunds.  Benchmark German bonds were practically flat during the reporting period, up a meager 0.03%.  The euro was the reigning performer among the G10 community during the fourth quarter, overtaking the U.S. dollar by an additional 1.62%

Fund Performance

During the reporting period, Federated Global Total Return Bond Fund had a total return (Institutional Shares at NAV) of 0.64% in comparison to its benchmark, the Bloomberg Barclays Global Aggregate Index (LEGATRUU), which returned 1.08%. The fund’s total return reflected actual cash flows, transaction costs and other expenses that were not reflected in the total return of the index. 

Performance data 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.

Click on Portfolio Characteristics for information on quality ratings.

A tactical switch in the Brazilian real (BRL) from an overweight to an underweight allocation enhanced performance relative to the LEGATRUU Index. However, legacy overweight allocations in both Sweden and Mexico detracted from overall fund performance relative to the LEGATRUU Index.  Finally, active portfolio duration management bettered fund performance relative to the LEGATRUU Index. (Duration is effectively the fund’s sensitivity to movements in interest rates; the lower the duration, the less the net asset value of the fund will fluctuate due to changes in interest rates.)

Current Strategy

Low volatility has become a staple provision for global markets and has deeply imbedded itself over the years into cognitive biases. It can be argued that the global QE initiatives have been largely responsible for this general decline in volatility.  At the same time, however, there is no denying that global growth is undergoing a synchronized upswing.  However, low risk premiums continue to reinforce the “goldilocks” notion of abundant liquidity, low borrowing costs and robust equity returns.  This viewpoint is becoming exceedingly common, and by definition, heavily priced into many asset classes.  A cyclical shift in inflation expectations could potentially disrupt this equilibrium.  The irony with the current consensus is that the stronger it grows, the less it will require for an inflationary rise to disrupt it.  Fund management is keenly aware that shorter-term cyclical risks appear disproportionately underestimated and structuring portfolio allocations accordingly.

Strong eurozone data surprised to the upside throughout 2017 on multiple economic fronts. Most importantly, growth momentum has finally begun to permeate the peripheral regions and is no longer reserved for Germany. However, the ECB’s policy measures and forward guidance continue to be very cautionary and conservative.  There is the slight, but not immaterial, chance that the ECB abridges its timeline to tighten rates and catches market participants off-guard.  This would almost certainly infuse even more euro appreciation, substantially widen peripheral spreads, and destabilize the trend in equities.  This is not our base case scenario however, but it is not one to be entirely dismissed either.  European rates are more likely to rise gradually in unison with healthy growth but fragile inflation.

The European region has been plagued with geopolitical instabilities for a number of years now, but recently political turmoil has found its way to the shores of Latin America as well. For the better part of 2017, geopolitical risks in Latin America had been mostly confined to Mexico and its trials with NAFTA.  More recently, political corruption in Brazil reached a new fervor and a failed presidential impeachment in Peru rattled markets.  Fund management continues to pursue deep intrinsic value in a host of Latin American economies, but has reduced its overall allocation to the region for time being due to the political uncertainties.

In a broader context, the U.S. dollar forfeited ground to every single major economy by the close of the 2017 calendar year. Among the major currencies, the euro was the top performer, garnishing a 14.15% return against the dollar; an astonishing feat considering that the euro is technically still a funding currency.  Longer term, the story will likely remain the same for the U.S. dollar, but shorter-term risks are growing and are vastly ignored and relaxed.  Currently, consensus is almost entirely skewed for further dollar losses.  Paradoxically, that same consensus in early 2017 was almost exclusively reserved for a higher U.S. dollar.  Market unanimity does not necessarily have to evolve into a contrarian indicator, but after a devastating year for the dollar, the foreign exchange market appears to be simply chasing momentum and stale narratives.


Key Investment Team