Assets - TD Asset Management

TD Asset Management
A NEWSLETTER FOR CONSULTANTS
Assets
Spring 2014
IN THIS ISSUE
LDI in Canada....................... 1
Currency hedging in an LDI
context................................ 3
TDAM updates..................... 4
LDI in Canada: A distinct approach
for a distinct landscape
In theory, liability driven investing (LDI) transcends borders. In practice, LDI can be
very different depending on the surrounding landscape. For example, Canadian
LDI investors are faced with a relatively small fixed income market (only 2% of
total global supply), an unusual market composition (one of the shortest maturity
schedules in the G-7) and fluid actuarial guidance, which can make it difficult to
create effective hedges.
Our experience suggests there are several key considerations that help Canadian
investors achieve their goals in spite of the unique challenges they face. Below we
discuss one: how expanding the investing bond universe can help investors succeed.
Product update
Widening the investment universe
Additions
TD Emerald Mid Term Provincial
Bond Index PFT
At TD Asset Management, we believe that LDI is a framework for making
investment decisions. An integral part of designing this framework is ensuring a
deep understanding of the entire opportunity set, and this is particularly important
in Canada, where the fixed income landscape is unique terrain.
Closures
Beyond AA corporate & provincial bonds
TD Lancaster Canadian Equity Fund
TD Lancaster Balanced Fund II
Unlike their global counterparts, some Canadian plan sponsors are subject to two
very different measures of plan liabilities — solvency and accounting. LDI investors
focused on their accounting basis liability tend to prefer AA-rated corporate bonds
because of assumptions made in the construction of the accounting liability discount
curve. However, within the Canadian market, there is a limited supply of long term
AA-rated bonds and no new long term AA-rated bonds were issued in 2013.
Similarly, for LDI investors focused on their solvency basis liability, there tends for be
an emphasis on provincial bonds. Again, supply is limited.
.... cont’d on page 2
1
TD Asset Management
CONSULTANT NEWSLETTER
Assets
.... cont’d from page 1
Given the dearth of AA-rated corporate bonds and
the concentration of provincial issuers in the Canadian
universe, it’s important to consider other parts of the
fixed income market when building either a solvency
or an accounting basis liability hedging portfolio.
Fortunately, our research indicates that other sectors
of the bond market can be considered high-correlation
substitutes for AA-rated corporate or provincial bonds.
For example, over the ten year period we analyzed,
the correlation between a sample set of accounting
based liability returns and long A-rated bond returns
was approximately 94% and between the same set of
liability returns and long BBBs was 88%1. Not only can
these bonds provide a good quality hedge, but the credit
compensation found in the expanded opportunity set
can, in many cases, lower expected hedging costs.
Trends in the underlying supply and demand dynamics of
the Canadian fixed income market can often cause the
ground to shift – especially with respect to long-duration
bonds. Therefore, investors must utilize the entire bond
universe to find pragmatic, cost-effective solutions while
at the same time remaining focused on their specific
liability structures and risk budgets. Utilizing the full
opportunity set is key to help ensure objectives are met.
Synthetic strategies
We believe that to construct a good quality hedging
portfolio investors need to either go out the credit risk
spectrum in search of assets that will perform similar to
their liabilities or introduce derivatives overlays to achieve
the degree of hedging required, especially if assets such
as equities are being maintained. The derivative market
in Canada requires special navigation. Unlike some other
developed LDI markets where there may be access to long
duration liability matching bond derivatives, in Canada
liquidity across the maturity spectrum is limited to ten
years in some commonly used instruments like interest rate
swaps. Given these constraints, bond overlay strategies
using bond forwards or repurchase agreements can be a
much more pragmatic way for a plan sponsor to enhance
their liability hedging portfolio in a cost-effective fashion.
Synthetic bond overlays evolved as an important tool in
LDI because of their ability to significantly increase the
duration match to mark-to-market measures like solvency
or accounting. Not as well understood, but beneficial, is
the consideration that bond overlay strategies can also
provide a very good source of additional income via coupon
payments on the referenced bond, net of the financing
cost (often referred to as the "positive carry"). In fact,
some plans may use a higher going concern discount rate
assumption to reflect this higher yield, which results in an
immediate reduction in the current service cost and going
concern liabilities.
Reduce manager limitations
In order to navigate the increasingly complex and uncertain
future of plan risks, sponsors will need asset managers
that understand their businesses well and are able to
translate that understanding to both the liability front and
the investment front. This means working closely with a
manager that’s focused more on risk mitigation and less
on traditional measures of performance, and who has the
1
Analysis period is from 12/31/2003 to 12/31/2013. Source: TDAM, FTSE/DEX
Events
2014 Benefits & Pension Summit | April 28-29, 2014, Toronto
Speaker: Jean Masson, Ph.D., Managing Director
Topic: Understanding Low-volatility strategies
Canadian Pension Risk Strategies Summit | June 3, 2014, Toronto
Speakers: Michael Augustine, CFA, FSA, FCIA, Vice President and Director;
Rachna de Koning, FCIA, FSA, Vice President and Director
Topic: LDI in Canada: A Distinct Approach for a Distinct Landscape
2
.... cont’d on page 3
TD Asset Management
Assets
CONSULTANT NEWSLETTER
.... cont’d from page 2
freedom to strive to take advantage of the opportunities
that the market provides as they arise. Such a manager can
provide a deep analytic capability, a broad skill set, and a
diverse suite of cost effective solutions.
A manager who is less constrained may take advantage of
varied active management tools to strive to add value. For
example, credit research and security selection, yield and
credit curve analysis, and portfolio construction are areas
where an experienced manager can make a significant
difference to LDI outcomes. If investors can achieve a better
return, adjusted for whatever risk is inherent in their own
particular obligations, then they should expect to achieve
a much more satisfactory and stable investment outcome,
which helps to increases the degree of certainty that they’ll
be able to meet their obligations over time.
For more information please contact your Relationship
Manager. 
Industry Outlook: Articles to read
Click on the title below to view the article
Low Volatility Equity Strategies: New and Improved?
By: Jean Masson, Ph.D., Managing Director;
February 2014 – Benefits and Pensions Monitor
Currency hedging in an LDI context
Foreign currency exposure can provide diversification and
reduce risk in a foreign equity portfolio. However, currencies
have a neutral effect on the value of a portfolio over the
long-term because they tend to mean revert over time.
Often currency effect studies are based on the premise
that investors are interested in an “asset only” perspective.
Because pension plans are more concerned about risk relative
to liabilities (or “surplus risk”), we examined whether foreign
currency translation increases or decreases surplus risk.
Reducing surplus risk
In conducting our research1, we considered the discounting
methods used to value liabilities because their sensitivity
to different factors varies. For instance, in the case of the
accounting discount method, the AA corporate credit spread
plays a significant role in the valuation of liabilities. As such,
it is critical to understand the relationship between changes
in credit spreads and the currency translation impact on
the equity portfolio. To reduce surplus risk, currency would
ideally make a positive contribution when liabilities are rising
and a negative one when they are falling.
In the last few years, we have observed the opposite —
the currency translation impact tended to be positive when
equity markets were weak and credit spreads widened
(resulting in declining liabilities). Likewise, the currency
translation effect was negative when equities were strong
and credit spreads contracted. In this scenario, currency
translation would have exacerbated the surplus risk. As a
result, hedging the currency risk would have reduced the
surplus risk.
The effect of interest rates
The relationship between the currency translation impact
and changes in Government of Canada interest rates (which
affect both accounting and solvency liability discounting
methods) is a little more difficult to discern. We believe some
hedging may be prudent here as well, particularly if pension
obligations are paid in Canadian dollars.
Overall, the behavior of currency is not constant; it changes
relative to equity markets, credit spreads and Government
of Canada interest rates. Therefore, the risk of being
completely hedged or unhedged in a foreign equity
portfolio will vary depending on the regime that persists
at the prevailing time. Given this uncertainty, we continue
to believe that investors should consider some level of
currency hedging in their portfolios.
For more information please contact your Relationship
Manager. 
1
Analysis period from 12/31/2003 to 12/31/2013.
Source: TDAM, FTSE/DEX, S&P, MSCI & Bloomberg.
3
TD Asset Management
CONSULTANT NEWSLETTER
Assets
TDAM updates
Additions
Date
Prior experience
Haining Zha, CFA
Associate, Asset Allocation Team
01/2014
Associate in the TDAM Investment Management Rotation Program.
Tarik Aeta,
Associate, Derivatives, Passive &
Structured Equity Team
01/2014
Associate in the TDAM Investment Management Rotation Program.
Louise Down
Vice President, Active Fundamental Fixed
Income (TDAM USA)
01/2014
Head of Investment Grade Trading & Deputy Head of Trading at an investment
management firm.
Peter Weldon
Vice President, Fixed Income Trading
02/2014
Sales trading and credit research experience at an investment management firm.
Departures
Date
Reason for departure
Hugo Senecal, CFA
Associate, Relationship Management
01/2014
To pursue another career opportunity.
Kathryn Montgomery
Analyst, Investment Grade Credit Research
(TDAM USA)
03/2014
To pursue another career opportunity.
Role changes
Date
Nicole Buchner, CFA
Vice President, Fixed Income Portfolio
Management
02/2014
Internal promotion to Passive Fixed Income Team from the Derivatives, Passive &
Structured Equity Team
TD Asset Management operates as TD Asset Management Inc. in Canada and TDAM USA Inc. in the United States.
TDAM USA Inc. is an affiliate of TD Asset Management Inc.
TD Asset Management Inc. leverages the experience of TDAM USA Inc. employees.
We invite you to learn more about how our strategies and services can help you meet your
clients' specific investment needs. Please visit us at www.tdaminstitutional.com or contact Joel
McGurrin at (416) 307-9215 ([email protected]) for more information or feedback.
Telephone: 1-888-834-6339 E-mail: [email protected]
The statements contained herein are based on material believed to be reliable. Where such statements are based in whole or in part on information provided by third parties, they are not guaranteed to be accurate or complete. The information
does not provide individual financial, legal, tax or investment advice and is for information purposes only. Graphs and charts are used for illustrative purposes only and do not reflect future values or changes. Past performance is not indicative
of future returns. TD Asset Management Inc. (“TDAM”), The Toronto-Dominion Bank and its affiliates and related entities are not liable for any errors or omissions in the information or for any loss or damage suffered. All products contain
risk. Important information about the pooled fund trusts is contained in their offering circular, which we encourage you to read before investing. Please obtain a copy. The indicated rates of return are the historical annual compounded total
returns of the funds including changes in unit value and reinvestment of all distributions. Yields, investment returns and unit values will fluctuate for all funds. All performance data represent past returns and are not necessarily indicative of
future performance. Pooled Fund units are not deposits as defined by the Canada Deposit Insurance Corporation or any other government deposit insurer and are not guaranteed by TD Bank. The TD Lancaster Funds are managed by TDAM
a wholly-owned subsidiary of The Toronto-Dominion Bank. Yields, investment returns, and unit values will fluctuate for all funds. Certain statements in this document may contain forward-looking statements (“FLS”) that are predictive in
nature and may include words such as “expects”, “anticipates”, “intends”, “believes”, “estimates” and similar forward-looking expressions or negative versions thereof. FLS are based on current expectations and projections about future
general economic, political and relevant market factors, such as interest and foreign exchange rates, equity and capital markets, the general business environment, assuming no changes to tax or other laws or government regulation or
catastrophic events. Expectations and projections about future events are inherently subject to risks and uncertainties, which may be unforeseeable and may be incorrect in the future. FLS are not guarantees of future performance. Actual
events could differ materially from those expressed or implied in any FLS. A number of important factors including those factors set out above can contribute to these digressions. You should avoid placing any reliance on FLS. TDAM may
not update any FLS. TDAM is a wholly-owned subsidiary of The Toronto-Dominion Bank. All trademarks are the property of their respective owners. ® The TD logo and other trade-marks are the property of The Toronto-Dominion Bank.
4
CN05/2014

Download Report