Categorizing Tactical High Yield in Your Portfolio

   

When considering tactical high yield strategies in general, like the Counterpoint Tactical Income Fund (CPITX), investors often ask where it fits within a fixed income portfolio, or what category it belongs to. Because CPITX is designed as a low-correlation diversifier of fixed income portfolios, it defies neat categorization.

However, this challenge is balanced by the unique contributions CPITX (and other systematic diversifier strategies) can make to a variety of bond fund categories. Let’s take a look at the case for assigning CPITX to a few different buckets as defined by Morningstar categories:

  • Nontraditional Bond
  • Intermediate Core-Plus Bond
  • High Yield Bond
  • Multisector Bond
  • Core bonds (represented by the Bloomberg US Aggregate Index)

As we’ll see, a tactical high yield strategy’s unique structure enables it to contribute alongside a number of popular fixed income strategies.

Is CPITX Just a High Yield Fund?

High yield trend following strategies like CPITX invest in high yield when “risk-on,” so many investors tend to think of these strategies as high yield strategies. But the numbers tell a slightly different story.

On the surface, CPITX has not historically shown a strong overall resemblance to any of its potential categories – including high yield. Its strongest relationships are with Nontraditional, Multisector, and High Yield bond categories – but the correlations are still fairly weak, topping out at 0.39 with the Nontraditional Bond category. (As a reminder, correlation is a scale from -1 to +1, where -1 means the strategies move exactly opposite, 0 means they have no relationship, and +1 means they are in lock step.)

Correlations – CPITX and Morningstar Bond Categories

Source: Morningstar. For illustrative purposes only. There is no guarantee that any investment strategy will achieve its objectives, generate profits, or avoid losses. “High Yield Bond”, “Nontraditional Bond”, “Intermediate Core-Plus Bond”, and “Multisector Bond” are completely composed of the Morningstar US High Yield, US Intermediate Core-Plus, and US Multisector Bond categories respectively. The “Bloomberg US Agg” is represented by the Bloomberg Barclays US Aggregate Bond Index.

Not Exactly Just a High Yield Bond Fund

Another way to analyze an investment’s fit within a category is to match its risk/volatility/standard deviation against the category. One reason investors use categories is to set expectations, especially expectations around risk.

Annualized Standard Deviation

Source: Morningstar. For illustrative purposes only. Past performance does not guarantee future results and there is no assurance that the Fund will achieve its investment objective.

From the risk point of view, CPITX is actually least like the high yield bond category, and instead looks more like the nontraditional, multisector, and core-plus categories.

Where Does CPITX Contribute to Portfolios?

Typically, a fixed income portfolio will seek to behave similarly to its category – Nontraditional Bond portfolios should behave like the Nontraditional Bond category, etc. This objective balances against another important goal – an optimal risk-return profile.

The chart below shows how adding CPITX to different bond categories may affect a portfolio’s risk reward. We modeled this by taking the Morningstar category (e.g., High Yield) and adjusting the portfolio to have an 80% weighting to the category and a 20% weighting to CPITX. The chart measures risk on the x-axis (riskier is further to the right) and return on the y-axis (more return as you go up). Strategies improve as they go up and to the left.

Risk – Reward Since Inception: 12/04/2015

Source: Morningstar. For illustrative purposes only. There is no guarantee that any investment strategy will achieve its objectives, generate profits, or avoid losses.

Whatever the category, CPITX historically would have contributed on both a risk and return basis – adding return while reducing portfolio volatility.

Conclusion

Counterpoint Tactical Income’s categorization depends on which criteria are most important to the decision.

  • Correlation analysis: CPITX’s strongest relationship historically has been with High Yield.
  • Volatility: When assessing historical risk, CPITX has the most in common with Core Plus, Multisector, and Nontraditional Bond categories.
  • Portfolio Contribution: There are meaningful historical benefits to including Counterpoint Tactical Income in a hypothetical model covering any of the four categories.

In our opinion, CPITX is most useful as a diversifier of core bond holdings, and we believe a reasonable allocation could replace up to 50% of an investor’s core bond sleeve. However, in conversations with investors and advisors, there tends to be a natural gravitation toward thinking of the strategy as a nontraditional or high yield bond strategy replacement. This owes in large part to investors’ understanding that the strategy invests in high yield bond markets when risk-on and displays low correlation with other traditional bond categories.

Investors should carefully consider the investment objectives, risks, charges and expenses of the funds managed by Counterpoint Mutual Funds. This and other important information about the funds are available in their prospectuses, which can be obtained at counterpointfunds.com or by calling 844-273-8637. The prospectuses should be read carefully before investing. The Counterpoint Mutual Funds fund family is distributed by Northern Lights Distributors, LLC member FINRA/SIPC. Counterpoint Mutual Funds, LLC is not affiliated with Northern Lights Distributors, LLC member FINRA/SIPC.

Important Risk Information

Mutual Funds involve risk including the possible loss of principal. The use of leverage by the Fund or an Underlying Fund, such as borrowing money to purchase securities or the use of derivatives, will indirectly cause the Fund to incur additional expenses and magnify the Fund’s gains or losses. Derivative instruments involve risks different from, or possibly greater than, the risks associated with investing directly in securities and other traditional investments. There is a risk that issuers and counterparties will not make payments on securities and other investments held by the Fund, resulting in losses to the Fund. Past performance is no guarantee of future results. There is no assurance the Fund will meet their stated objectives.

Investments cannot be made in an index. Unmanaged index returns do not reflect any fees, expenses or sales charges. Past performance is no guarantee of future results. There is no guarantee that any investment will achieve its objectives, generate positive returns, or avoid losses. The Adviser’s reliance on its strategy and judgments about the attractiveness, value and potential appreciation of particular securities and the tactical allocation among investments may prove to be incorrect and may not produce the desired results. No level of diversification can ensure profits or guarantee against loss.

Index Definitions

High Yield, Intermediate Core-Plus and Multisector Bonds are represented by the Morningstar US High Yield, US Intermediate Core-Plus, and US Multisector Bond categories respectively. The Bloomberg US Agg is represented by the Bloomberg Barclays US Treasury 7-10 Year Index, which measures total return of US dollar-denominated, fixed-rate, nominal debt issued by the US Treasury with 7-9.9999 years to maturity.

© 2022 Morningstar. All Rights Reserved. The information contained herein: (1) is proprietary to Morningstar and/or its content providers; (2) may not be copied or distributed; and (3) is not warranted to be accurate, complete or timely. Neither Morningstar nor its content providers are responsible for any damages or losses arising from any use of this information. Past performance is no guarantee of future results.

5752-NLD-08/17/2022

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Mutual Funds involve risk including the possible loss of principal. Investors should carefully consider the investment objectives, risks, charges and expenses of the funds managed by Counterpoint Funds. This and other important information about the funds is available in their prospectuses, which can be obtained at counterpointfunds.com or by calling 844-273-8637. The prospectuses should be read carefully before investing. The Counterpoint Funds fund family is distributed by Northern Lights Distributors, LLC member FINRA/SIPC. To reach the Counterpoint sales team, please refer to our contact page.

5516-NLD-09/01/2021

 

 

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