As of 09-30-2017

Market Overview

Geopolitical events caused financial-market volatility at times during the third quarter. Saber rattling between the U.S. and North Korea caused fears of global nuclear war and its potential financial-market fallout. Thankfully, nothing more than angry rhetoric took place. This episode produced a flight-to-quality trade bringing the 10-year Treasury rate to a low of 2.01%. However, interest rates spent most of the quarter in a quiet, well-defined range. The Federal Reserve (Fed) announced an October start to reduce its balance sheet of Treasury and mortgage-backed bonds. This action had been well telegraphed by the Fed and didn’t impact the shape of the Treasury curve or relative yields of those securities. The September inflation print broke the string of soft inflation readings. The hurricanes’ impact on gas prices also improved inflation sentiment. Finally, domestic politics helped yields stabilize due to a surprising bipartisan compromise on funding the government and the debt ceiling. This pushed back the fight until the fourth quarter, but a bipartisan approach opened up hope for potential support for tax reform, which is next on the fiscal agenda—after the failed attempt to repeal and replace the Affordable Care Act. On the economy, domestic growth continued at a solid pace, employment continued to grow, business and consumer surveys continued to be optimistic and financial conditions continued to ease. International economies started to exhibit signs of growth and healing from the malaise of the past number of years.

For the quarter, 2-year rates rose 10 basis points and 5-year rates rose 5 basis points. Inflation expectations widened by 25 basis points, and Treasury Inflation-Protected Securities (TIPS) modestly outperformed.

Fund Performance

For the three months ended Sept. 30, 2017, Federated Real Return Bond Fund (Institutional Shares) returned 0.80% versus 0.86% for the Bloomberg Barclays U.S. TIPS Index. The Institutional Shares’ net asset value (NAV) on Sept. 30, 2017, was $10.37.

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.

Positioning and Strategy

The fund’s strategy is to maintain significantly less interest-rate risk (primarily by selling U.S. Treasury note futures contracts) than the index in an attempt to reduce the negative impact on shareholder NAV in a rising interest-rate environment. The rationale is that the fund’s benchmark has duration in excess of five years and therefore a significant amount of interest-rate risk. When interest rates increase, whether due to rising inflation or other causes, they have a negative impact on the fund’s total return.

Federated’s Sector Pod recommended an overweight position to investment-grade corporates, along with its continued recommended exposure to high-yield credit. Tactical credit-sector exposure is an integral part of the fund’s strategy in that the incremental yield from credit provides additional income to shareholders and can help to smooth the highly variable inflation accruals on TIPS. The fund trimmed some of its credit holdings in investment-grade and high-yield and redeployed the proceeds into TIPS. The fund still has exposure to high-yield and investment-grade corporates.