HOLD: 3rd Quarter 2022 Portfolio Review
The Advisor Shares North Square McKee Core Reserves ETF returned 0.27% (27 basis points market, 17 basis points NAV) in the third quarter, underperforming the Bloomberg 3-month Treasury Bill index by 21 basis points. The year- to-date return for the strategy is -0.46%.
The expected seasonal lull in market volatility failed to materialize this summer, as inflation readings continued to surprise to the upside. The Fed, careful to reinforce their comments to the public regarding their near-singular focus on inflation, followed up June’s 75 basis point Funds rate increase with moves of equal size in August and again in September. The peak Funds rate expectations grew from approximately 3.50% at the end of Q2 to just over 4.50% in the third quarter. Evidence of the Fed’s attempt to slow the economy and the rate of inflation can be found in the commodities markets, but strength in shelter costs (representing nearly 30% of overall inflation) continue to boost consumer prices.
As was the case in the first two quarters of this year, defensive duration positioning and a focus on quality was a significant contributor to performance during Q3. Of even greater consequence was our decision to avoid residential mortgage holdings, in favor of short maturity corporate, asset backed and multi-family securities. Though we don’t envision a return to the low volatility levels seen over the past decade, we do expect a significant move lower as the Federal Open Market Committee approaches the end of its tightening cycle early next year.
As we grow ever nearer the peak in the Fed Funds rate, we join the majority of investors in looking for signs of a proximate top in the pace of inflation. With commodity prices, job growth and home sales well off their highest levels, we believe tighter Financial Conditions are moving the economy toward a mild recession in the next 12 months, setting the table for a rebound in risk asset performance.
The agency and asset-backed sectors once again represents our preferred method for generating alpha as we head into the final quarter of this year. Though higher yields and pension plan de-risking (reducing allocations to equities in favor of intermediate and long maturity corporate bonds) has supported credit performance, our concern for corporate earnings in a mild recessionary environment limits our enthusiasm for the sector. Agency mortgages are also becoming increasingly attractive in light of their current valuations.
|Security Description||Price $||Portfolio Weight %|
|FEDERAL HOME LOAN BANK 4.3 9/26/2023||100.12||4.61%|
|FEDERAL FARM CREDIT BANK 4.89 10/3/2025||100.00||3.22%|
|BANK OF AMERICA CORP 3.004 12/20/2023||99.48||3.05%|
|FREDDIE MAC 4.75 9/30/2025||99.29||3.05%|
|US TREASURY N/B 3.5 9/15/2025||97.98||3.01%|
|MORGAN STANLEY 4.875 11/1/2022||100.02||2.83%|
|ATHENE GLOBAL FUNDING FRN 1/7/2025||96.85||2.45%|
|FEDERAL HOME LOAN BANK 3.64 7/28/2025||98.17||2.26%|
|FEDERAL FARM CREDIT BANK 3.94 7/27/2026||97.55||2.25%|
|FHR 4614 PA 3 12/15/2043||99.00||2.14%|
As of 09.30.2022. Cash is excluded.