The iMGP High Income Fund rose 1.06% in the fourth quarter, outperforming the Bloomberg Aggregate Bond Index (the Agg), which fell by 3.06%, high-yield bonds (BofA Merrill Lynch US High-Yield Cash Pay Index), which rose 0.16%, and its Morningstar Nontraditional Bond category peer group (+0.14%). For the full year, the fund was up 8.84%, significantly outperforming the Agg (+1.25%) and the category (+5.93%), and slightly beating high-yield bonds (+8.20%).
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Quarterly Review
Performance of Managers
During the quarter, all three subadvisors produced positive returns, with Neuberger Berman up 5.27%, BBH up 1.02%, and Guggenheim up 0.98%. (All sub-advisor returns are net of the management fees that each sub-advisor charges the fund.) For the full year, Neuberger Berman returned 20.55%, Guggenheim gained 9.21%, and BBH was up 9.03%.
Manager Commentaries
Brown Brothers Harriman
Interest rates rose to recent highs despite the Fed’s campaign of cutting interest rates. The Fed cut the federal funds rate by a total of 0.50% during the quarter and 1.00% during the 2024 calendar year. However, yields rose across all tenors to higher levels than what prevailed at the start of the fourth quarter and the start of 2024. This was driven by changes to investors’ predictions for forward-looking Fed interest rate decisions becoming reflected in Treasury rates. These predictions suggested a less aggressive pace of rate cuts in 2025, as markets revealed expectations of an end-of-2025 fed funds rate near 4.00% at the end of the quarter versus 3.00% when the quarter began.
Most fixed income indexes experienced negative total returns due to the rise in interest rates that occurred during the quarter. Excess returns to credit were overwhelmingly positive as credit spreads in mainstream indexes narrowed from already low levels to their cyclical lows.
Short and intermediate duration fixed income indexes posted positive total returns during 2024 despite the rise in interest rates. Long duration indexes posted negative total returns during the calendar year as the rise in interest rates offset any yield benefits. The Bloomberg U.S. Aggregate Index advanced 1.3%, over 3.0% lower than its beginning-of-year yield of 4.5%. Excess returns to credit were positive across all major sectors as credit spreads in mainstream indexes narrowed from already low levels to their cyclical lows.
Quarterly Performance and Key Drivers
The portfolio’s sector and rating emphases contributed to relative results during the quarter. The portfolio was overweight to several strong performing segments of the credit market, particularly within its holdings of investment grade corporate bonds. Selection in loans, ABS, & IG Corporate Bonds contributed positively to performance. Subsectors that contributed to selection included loans to healthcare companies, electric utilities, technology companies, consumer cyclical services and media companies. IG Corporate bonds of property and casualty insurers, BDCs, specialty REITs and life insurance companies also contributed positively to selection, as did positions in aircraft equipment ABS. Selection of high yield corporate debt, ABS, and loans detracted from performance. Detractors included high yield corporate bonds issued by technology companies, positions in collateralized loan obligations, and loans to cable satellite and airline companies.
We found numerous opportunities for the portfolio that met our valuation and credit criteria during the quarter. Some key ones to point out are positions in corporate bonds issued by property and casualty insurers and BDCs. At the end of the quarter, the portfolio’s duration was 2.06 years, the options adjusted spread was 303 basis points, with a yield to maturity of 6.67%.
Outlook/Positioning
The compression of credit spreads amid low net issuance growth and strong inflows into fixed income could be indicative of an environment where many credits’ valuations are overbought and disconnected from their fundamentals. Our Valuation Framework lends credence to that theory. The Framework identifies few opportunities in traditional segments of the credit markets as the percentage of potential “buy” opportunities is screening near cyclical low levels across most sectors. The percentage of credits that screened as a “buy” decreased to 4% from 7% for investment-grade corporate bonds, to 58% from 68% for corporate loans, and to 16% from 19% for high yield corporate bonds. No cohort of the 15- or 30-year MBS market screens as a “buy” candidate. Away from credits in mainstream indexes, bonds of collateralized loan obligations (CLOs) and a few nontraditional ABS sectors narrowed to recent lows and screen unattractively for new purchases.
There remain opportunities in select subsectors of the market. Investment-grade corporate bonds in life insurance and banking, two interest rate sensitive subsectors, continue to offer attractive opportunities. The corporate loan market continues to offer numerous opportunities that screen as “buy” candidates. In the structured credit markets, we continue to find opportunities in a variety of subsectors through our bottom-up process in ABS. Opportunities are arising in the CMBS market as property- and deal-level dynamics are disconnected from the negative headlines impacting the sector.
We continue to avoid emerging markets credits due to concerns over creditor rights in most countries and their impact on credit durability. We continue to avoid non-agency RMBS due to poor technical factors, unattractive valuations, and weak fundamentals, underpinned by poor housing affordability, low inventory of homes for sale, and stable-to-declining home prices.
Credit investors are in a quandary: valuations reflect that investors may believe historical credit risks are unlikely to occur in the near term while fundamentals can be upended by risks looming from changes to the U.S.’s political landscape and impacts from higher-for-longer interest rates on borrowers. Higher interest rates may exacerbate this trend by luring investors to increase their fixed income allocations, creating inflows into the asset class, and causing forced buying of credit by money managers. We believe the valuation and credit disciplines embedded in our bottom-up process allow us to approach opportunities with the requisite caution in this environment.
Guggenheim Investments
We expect moderate U.S. real GDP growth of about 2% in 2025. Household and corporate balance sheets are in good shape, particularly for high income households and large businesses, which is helping contain downside economic risks. The outlook for consumer spending is positive, supported by healthy growth in inflation-adjusted labor incomes and a wealth effect driven by rising asset prices. The labor market has shown signs of stabilizing recently. Still, a renewed rise in unemployment could threaten consumer spending and the broader growth outlook.
Policy uncertainty is elevated following the election. The most immediate policy impact will be improved business and consumer sentiment, aided by deregulation and tax cuts expectations. The Tax Cuts and Jobs Act is highly likely to be extended, but that only prevents a fiscal drag. Additional tax cuts would be required to provide incremental stimulus, but we see limited scope for these as the fiscal backdrop has worsened and the market is sensitive to the fiscal trajectory. Tariffs slow growth by increasing business uncertainty and lowering real incomes. By some measures, trade policy uncertainty has already surpassed 2018–2019 levels, which could delay investment plans. Broad implementation of tariffs could also push up prices, potentially slowing the pace of rate cuts. Ultimately, we expect more targeted tariffs will be implemented, using them to negotiate favorable terms for the United States.
Our outlook already had slower immigration moderating growth in 2025. Immigration activity at the border is already down over 70 percent from its 2023 peak, which should slow both labor supply and consumption in coming quarters. Our expectation is that additional new policies will slow immigration modestly further than the current trajectory. Inflation progress has slowed somewhat in recent months, but cooling rent inflation and easing wage growth bode well for a further slowdown. We expect a continued moderation in inflation toward the Fed’s 2% target in 2025, though on a slow and bumpy path with some tariff-driven price shifts.
Given policy is still above estimates of neutral, and ongoing progress on inflation, we expect the FOMC will bring policy closer to neutral in 2025 with two rate cuts. We estimate the neutral rate is 3.25-3.5%, reflecting upward pressure in recent years from large fiscal deficits along with a structural rise in investment demand from factors such as artificial intelligence, reshoring, and the energy transition. We expect Fed balance sheet reduction will conclude by mid-year.
We expect the 10-year Treasury yield to mostly trade within a range of 3.75-4.75 percent. Investors should remain selective with spreads continuing to trade near historical tights. We are finding value in areas we consider to be of higher quality within sectors, more often represented by stable cash flows and structural security than by rating. Broadly speaking, fixed-income yields continue to provide an income cushion that could reduce the impact if spreads should widen from here. Significant dispersion underlying solid aggregate corporate fundamentals, along with upcoming policy changes post-election mean that active credit and sector selection is key. We are using market strength as an opportunity to rotate, seek diversification, and add structured credit exposure that we find attractive.
Neuberger Berman
Equity Markets
The fourth quarter of 2024 unfolded as a period marked by the US presidential election significantly influencing investor sentiment. Despite the challenges in December, marked by a -2.38% drop in the S&P 500 Index, the quarter still posted a positive return of 2.41%, culminating in an impressive 25.02% gain for the year. This was primarily driven by a strong November ‘election relief’ rally, fueled by optimism surrounding potential deregulation and tax cuts under the incoming administration.
US Treasury Markets
Fixed income markets experienced volatility arising from geopolitical events, central bank actions, and inflation pressures. The US Federal Reserve reduced interest rates by 50bps during the quarter, bringing the federal funds rate to a range of 4.25%-4.50%. In December, bond markets declined alongside equities; the Bloomberg US Aggregate Bond Index fell by -1.64%, while the Bloomberg US High Yield Index decreased by -0.43%, leading to quarterly returns of -3.06% and 0.17%, respectively. Over the year, investment-grade bonds struggled to keep pace with high-yield bonds, mainly due to the strengthening US dollar and rising yields. High-yield bonds outperformed their investment-grade counterparts, buoyed by strong demand and tightening spreads. For the year, the Bloomberg US Aggregate Bond Index returned 1.25% compared to an 8.19% return for its high-yield counterpart.
Option Implied Volatility Indexes
As anticipated, market volatility increased in December as markets faced declines, wrapping up the year in a landscape influenced by the recent US presidential election and its potential policy shifts, alongside ongoing trade discussions and shifting geopolitical alliances. Throughout the quarter, the Cboe Volatility Index (VIX) remained relatively stable, averaging 17.36 with a robust average implied volatility premium of 6.41. For the year, VIX rose by 4.9 points, averaging 15.56 with an implied volatility premium of 3.06.
Notably, with VIX currently at 19.5 as of January 1, 2025, aligning with its long-term average, we believe the option market is adeptly capturing the uncertainty surrounding the timing of Fed rate reductions. Ironically, December’s stronger-than-expected jobs report was seen as a detractor for equity markets eager for rate cuts—and the transition to the second Trump presidency. Historically, we might expect equity markets to applaud better-than-expected economic data; however, this shift signals that the equity market is less interested in the consumer strength—where a robust jobs report indicates economic vitality—and a heightened interest in the cost of capital. In this context, the Fed Fund rate becomes a crucial factor for companies and investors in determining valuation multiples.
Outlook
Most equity managers, value-focused ones especially, generally prefer markets to trade on “fundamentals”. Regardless of whether active management will have a renaissance, we think that global economies are returning to the competitive, less predictable personalities of the past. Managers of global corporations will have to compete for resources, pay to borrow, appease shareholders, grow the top and bottom lines and, of course, maintain relatively happy work forces in the new era of ESG and DEI investing. This seems like a more challenging future than the relatively easy conditions of the last decade, even with a global pandemic.
Having navigated a unique decade of volatility and equity market “handholding”, our future optimism is not based on expectations for higher option implied volatility levels, but rather the S&P 500 Index rejoining the mortal world of public investment indexes. The fact of the matter is that in our view lower or more “normal” US equity market returns will allow high-risk-adjusted strategies to prove their worth once again. It’s understandable that investors have come to view any asset class outside of public or private US equity as simply a return reducer that lowers portfolio risk. The idea of diversifying strategies that can outperform seems like an artifact of the past. Hence, we believe strategies that offer structural diversification may pleasantly surprise investors over the next several years as long-term equity market returns—the S&P 500 in particular—revert to their long-term trends.
Strategy Allocations
The fund’s target allocations across the three managers are as follows: 40% each to Brown Brothers Harriman and Guggenheim Investments, and 20% to Neuberger Berman. We use the fund’s daily cash flows to bring each manager’s allocation toward their targeted allocation should differences in shorter-term relative performance cause divergences.
Sub-Advisor Portfolio Composition as of December 31, 2024
| Brown Brothers Harriman Credit Value Strategy | |
| ABS | 13.0% |
| Bank Loans | 22.0% |
| Corporate Bonds | 45.9% |
| CMBS | 1.7% |
| Cash & Equivalents | 17.4% |
| Guggenheim Multi-Credit Strategy | |
| ABS | 27.1% |
| Bank Loans | 18.5% |
| Corporate Bonds | 26.2% |
| CMBS (Non-Agency) | 2.0% |
| Preferred Stock | 2.8% |
| RMBS (Agency) | 7.4% |
| RMBS (Non-Agency) | 8.5% |
| Other | 4.9% |
| Cash & Equivalents | 2.6% |
| Neuberger Berman Option Income Strategy | ||
| Equity Index Put Writing | 100% |