Total Return Fund Monthly Insight

Global growth and rising rates set the stage

Nov 17, 2017

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Interest rates expected to move modestly higher as global
growth continues.

During the month of October, interest rates exhibited some volatility as the market digested headlines around the changing frontrunners for the Federal Reserve Chair nominee as well as the Republican Party’s putative tax plans. The U.S. 10-year Treasury yield started October at 2.33% and rose to its highest point in over seven months at 2.46%, but then rallied lower to finish the month at 2.38%. U.S. stocks reached new historic highs alongside the possibility of tax reform and solid third-quarter corporate earnings.

The fund’s effective duration at 5.55 years is underweight relative to the benchmark. We expect rates to push marginally higher through year end amid solid global growth, a cyclical but modest uptick in inflation, and broadly less accommodative monetary policy from developed-market central banks. We covered the fund’s underweight on the front-end of the curve as the market priced in the potential for a December rate hike. The fund continues to be underweight the 7-10 year part of the curve as we expect investors will require more yield for longer-dated bonds given the strong global growth backdrop.

The fund's diversified sources of return across fixed income asset classes

Chart: The fund's diversified sources of return across fixed income asset classes

Source: BlackRock as of 10/31/2017. Quarterly return attribution is based on gross returns of the fund’s Institutional share class. U.S. Relative Value: The fund’s U.S. relative value strategies reflect the portfolio management team’s specific views on the mortgage market. Macro: The macro strategy is how the portfolio management team implements thematic and macro-economic investment views through duration, yield curve and foreign-currency positioning. Residual: This non-attributable portion of the fund’s total return is derived from trading and allocation effects across the fund’s investment strategies. For standardized performance, click here

We continued to maintain a neutral stance on investment grade credit but slightly reduced exposure to financials. We still hold a preference for banks and technology. We prefer to hold specific names within investment grade rather than broader index exposure. We increased the fund’s overweight in municipals in October as the prospective tax plan is relatively positive for the asset class.

We continue to favor income-producing securities such as high-quality securitized assets and emerging market debt. We believe securitized assets, including non-agency mortgages and collateralized loan obligations, should continue to experience strong demand in this low yield environment. While we slightly reduced the Total Return Fund’s emerging markets exposure due to higher rates and a stronger dollar, we still believe the sector should continue to be supported by synchronized global growth. We hold high-conviction exposures in select countries like Mexico and Indonesia.

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