As of 09-30-2018


  • Federal Reserve (Fed) continues to vindicate fund management’s decision to maintain a cautious duration posture
  • Spread product performance was robust in third quarter; management taking a slightly more cautious view on credit given fuller valuations
  • Economic and earnings growth still reasonable, but looming trade war threatens continued expansion

Looking Back

The Fed continued its normalization of interest-rate policy in the third quarter of 2018, raising its federal funds target rate range by 25 basis points, the eighth such move since December 2015. The range now stands at 2-2.25%, and many market participants believe it will be increased once more by another quarter point at the December Federal Reserve Open Market Committee (FOMC) meeting. Also, the program to reduce the size of the Fed’s balance sheet represents an ancillary form of monetary tightening. Accordingly, fund duration was maintained in the 0.40–0.45 year range, at the shorter-end of the fund’s normal 0.4-1.0 year range.

While interest rates increased in general over the course of the third quarter, once again, short-term yields increased more than longer-term ones, a common reaction when the Fed is in a tightening mode. The yield on the 2-year Treasury note increased 28 basis points, from 2.53% to 2.81%. The 5-year rose 20 basis points, from 2.74% to 2.94%, however the 10-year increased only 17 basis points, from 2.86% to 3.03%. With regard to credit metrics, credit spreads staged a healthy rally at the short-end of the yield curve over the course of the reporting period. The spread (option-adjusted) on the Bloomberg Barclays 1-3 year Credit Index moved from 0.55% to 0.42%. The spread on the Bloomberg Barclays ABS Index, which at 2.16 years in duration represents a reasonable proxy for short-term spreads in securitized products, tightened significantly, from 0.47% to 0.37%.

Fund Performance

Federated Ultrashort Bond Fund’s return on Institutional Shares at net asset value (NAV) for the quarter was 0.61%, compared with returns on the Lipper Ultrashort Obligations Funds Average of 0.61%, a return on the ICE Bank of America Merrill Lynch 1-Year Treasury Bill Index of 0.20%, and a return on the Bloomberg/Barclays Short-Term Government/Credit Index (BBSTGCI) of 0.53%.

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 on the Performance tab for standard fund performance.

Click on the Portfolio Characteristics tab for information on quality ratings.

Performance Contributors

The fund’s fairly short duration and income capture from spread securities over the course of the quarter placed it ahead of its benchmarks and peer group for the quarter despite higher interest rates. The fund’s floating-rate exposure at quarter-end stood at 69%, one percentage point above its opening level. Floating-rate securities benefitted from the London interbank offered rate (Libor), which has increased over the past year in response to changes in Fed policy. Management believes further increases also will benefit the portfolio in terms of both yield and total return, while the presence of more floating-rate paper should help to maintain capital stability.

Performance Detractors

Higher rates had some effect on fund value in the third quarter, though this was more than offset by the positive effect of a stronger credit market. In light of this positive credit performance, the fund lagged those peers which maintained the most aggressive risk profiles. Fund management believes, however, that investors in low duration products such as FUSBF are generally interested in a more middle-of-the-road approach to short-term investing. Management has been engaging in a subtle portfolio upgrading process over the past year or so. With credit spreads as tight as they are currently (the Barclays’ 1-3 Year Credit Index OAS was within 3 basis points of the all-time low last achieved in 2007), and the Treasury curve offering more yield as the Fed continues to raise rates, the opportunity cost of maintaining a slightly more conservative risk profile has declined considerably. The portfolio should now be better positioned for any unanticipated market corrections.

How We are Positioned

The Fed has made it clear to the marketplace that a deliberate, yet measured pace of monetary tightening will continue into 2019. While the Fed’s actions will always be data dependent or driven by an exogenous event, fund management continues to position the portfolio in anticipation of the expected Fed outcome. Moving into the fourth quarter of 2018, even though short credit levels are once more inside of where they were at the beginning of 2018, management is maintaining its modest portfolio credit overweight, but monitoring it carefully. Additional caution may be warranted if the current protectionist tilt out of Washington takes a significant toll on economic activity.