Today, we excerpt from the April issue of Crane Data's newest publication, Bond Fund Intelligence, which tracks the bond fund marketplace with a focus on the ultra-short and most conservative segments. The article says: Our April Bond Fund Intelligence "profile" interviews `Putnam Investment's Portfolio Managers Joanne Driscoll and Michael Salm, who is also Co-Head of Fixed Income at the firm. Driscoll and Salm run the $2.2 billion Putnam Short Duration Income Fund, one of the largest funds in our Conservative Ultra Short Bond Fund universe. They talk about the importance of differentiating between various types of Ultra Short Bond Funds and why this niche is poised for growth in an environment of rising rates and more regulations.
BFI: How long have you been involved in this space? Driscoll: I have been at Putnam for almost 20 years and currently oversee the short-term liquid markets team where I'm responsible for all of our front-end strategies. Putnam launched Short Duration Income Fund in October 2011 -- with Mike and I serving as the lead managers. In 2009, we looked at the changing regulatory environment for money funds, driven by the pending amendment to SEC Rule 2a-7. While money funds were forced to shorten their investments, issuers were being told by regulators that they needed to become less reliant on the front end and extend the duration of their debt. So, our goal in launching this fund was to leverage the changes in money funds and the opportunities that were created in the market by this change. We felt this would create a demand for a fund just outside of 2a-7, but something more conservative than a short term bond fund.
Salm: During my 18 years at Putnam, I have focused quite a bit on structured products, mortgages in particular. Over time, I have worked a lot on liquid markets in general, focusing on interest rates and volatility, as well as our views about the Fed. In thinking about this strategy, there was a lot of overlap in using our expertise on the front end of the curve and in using our expertise just beyond the traditional 2a-7 venue. We wanted to leverage this very interesting combination of investment processes that you don't necessarily see blended together in normal fund structures.
BFI: How has the Short Duration Income Fund been received? Driscoll: The fund has grown to about $2.2 billion in assets under management. The objectives of our fund are capital preservation and income maximization. Our process is primarily built around the best ideas of our credit team, which focuses on alpha generation within a host of areas. We believe that prudent short term investing requires relentless focus on credit quality and risk management. Due to the nature of the fund, we focus on credit fundamentals and the risk-return trade off. Something that really differentiates Putnam in this space is the way our fixed income team works: We can leverage the entire research team; our analysts cover the sectors across all asset types -- high yield, high grade, money markets, and munis in some cases. With our broader coverage, we can put an intense focus on credit analysis.
We have found that the fallout from the financial crisis has made the ratings agencies reactionary and that impacts many issuers. While our analysts view some of these companies to be either equal to or stronger than prior to the downgrade, due to the ratings requirements of 2a-7, they cannot be purchased by money funds, even though internally we feel that they would be appropriate. These institutions are attractive purchases for Putnam Short Duration Income Fund and add some good yield to the portfolio.
There's a big difference between our fund and our peer group. Putnam Short Duration Income Fund is generally higher quality than many of its peers. We don't buy below investment grade, so we don't have high yield or floating rate bank loans like you see in some competitors. We limit our investments in the low triple-B category because we're trying to minimize the volatility in this fund as much as possible. The reception to the fund has been very positive. We find a lot of investors are challenged by the low level of interest rates and the new 2a-7 amendments. We see more and more interest in the fund because they are looking for products that can add incremental yield over a money fund with low NAV volatility.
BFI: What are the challenges for this fund? Driscoll: For us, it's making sure that financial advisors understand that this is not a money fund or a cash alternative. Prior to the crisis, many firms sold cash alternatives that behaved and looked more like a short term bond fund, and those outcomes, as we know, weren't always good. We spend a significant amount of time educating our financial advisors on the strategy and the risk-return tradeoff, so there are few, if any, surprises. We've seen a large amount of variability in this peer group, so we want to make sure the advisors understand what this fund is.
Salm: In fact, we're very sensitive about distinguishing ourselves so that people know that this category itself can be very heterogeneous. Don't mistake us in any way, shape, or form as a money market fund. We think there's a really good space between the ultra-short bond fund and money market fund categories, which is where the Short Duration Income Fund resides. The fund has been able to meet its objective in the last three years, delivering a high degree of capital preservation and a consistent return.
Watch for more of our latest BFI profile in coming days, or contact us to see the latest issue of our Bond Fund Intelligence. (BFI is $500 a year, or $1,000 including our BFI XLS spreadsheet.)
