TCTEC

4th Quarter 2019 Q&A

Tannin’s High Quality Short-Intermediate Non-AMT Tax-Exempt Core portfolio was originally designed and continues to be the nucleus of our Family Office Clients’ Partnership & Trust Portfolios.  Why?

The first of Tannin’s three tenants is Preserve - preserving capital at the root level - providing the foundation for the portfolio and the entire balance sheet.

What’s unique about the portfolio?

High Quality is defined as AA and higher and, through our client specific SMAs, portfolios are built to maximize federal and, more specifically, state tax-exempt income while retaining the utmost liquidity and optionality.

So what about client objectives and performance objectives is accomplished with this strategy at the center of the portfolio?

We are risk mangers and strive to provide creative, bespoke solutions to our clients potential risks so that we fill any gaps or exposures before they become problems in their balance sheets.

Risk-adjusted performance is very important to us.  We will strive to manage efficiently to that end while focusing on our primary objective of doing the right thing for our clients’ specific needs.  We have found that doing the right thing for our clients leads to performance.

Give me an example of that?

One example would be year end, 12/31/12, which was the virtual low in interest rates in the history of the United States, basically 0-25 basis points on the Fed Funds Target Rate and T-Bills.  If you’re a bond manager, this would be the most challenging starting point to start a performance composite,  yet that was when ours started on this composite.  We believe that the positive outcomes that we have achieved for our clients are reflective of the discipline necessary to manage through the more challenging environments.

Another example was in the fourth quarter of 2017 when there was an increase in Municipal bond supply as issuers rushed to re-fund deals prior to pending tax changes.  We were well positioned for rising rates and embraced the Fed's transparent forecast of 100 basis points of tightening in 2018.  Therefore, all things being equal, one generally would rather not consider extending duration in portfolios from a short term performance perspective.  But like most things in life, every client's portfolio and situation is unique.  Yet, one byproduct of zero rate policy and low volatility, is that industry forces have successfully commoditized many portfolios as if all clients were the same.

So what were you thinking in the moment during that window of time?

We focused on the needs of our clients.  In our analysis, we looked at the increase in supply and the relative levels at which we were able to deliver high quality bonds into our clients' portfolios.  The 10 year US Treasury was yielding around 2.25% and we thought, with the anticipated Fed tightening, that the yield on the 10 year bond was probably heading for 3.25% by the end of 2018.  In bond price terms, that is a significant headwind from a short term performance perspective.

So your performance would have suffered in the short term as a firm if you purchased bonds for clients at the end of 2017.  What did you decide to do?

We bought bonds for clients by participating in selective New Issues with the increase in supply to deliver both relative tax-equivalent spreads of over 200 basis points and nominal state-specific tax-equivalent yields of around 4.50% to 5.00% into our clients' SMAs.  It was the right thing to do for our clients and our interests are aligned with our clients.

What happened in 2018?

In 2018, with the Fed's tightening policy and Quantitative Tapering, we were actively managing factors such as duration, structure and quality in our clients' separately managed accounts.  We definitely felt the rise in interest rates from a short term performance perspective on the intermediate duration bonds that we had purchased going into the Fed's first tightening of 2018.  Our themes for 2018 were that rates would rise across the curve and volatility would increase with correlations heading towards one across asset classes.  After the Fed's third tightening in September 2018, as we continued rolling out of what were positive total returns on our shorter duration maturities, the strategy focus was to move into longer duration high quality bonds.  In order for that to happen in that environment, one needs to be positioned accordingly.  Our institutional clients and financial professionals who allocate to our SMAs understand how those mechanics work and the advantages of SMAs for high net worth clients.  The volatility re-surfaced in December 2018 as the Fed tightened for the final time last year.

What has happened this year?

In 2019, the Fed has reversed course and may have to ease again in the fourth quarter.  We are watching; however, our attention is now turning more towards the credit and structure side of risk in the markets as we go into year end.

Note that soon after this 4th Quarter 2019 Q&A, the Covid-19 Global Pandemic materialized during the 1st Quarter 2020.