Strategy Spotlight

Equities at PIMCO: Nontraditional Solutions, Recognized Results

In late-cycle markets, our nontraditional equity approaches may offer investors more reliable and diversifying sources of alpha potential.

Looking at the numbers, it’s not surprising that advisors, consultants, and institutional investors alike have become increasingly frustrated with the underperformance and high fees associated with traditional active equity management. Roughly 70%–90% of active managers in the strategic U.S. large, U.S. small, and international equity categories have underperformed passive providers over three-, five-, and 10-year periods, according to recent Morningstar data (see Figure 1).

Yet investors looking to optimize their equity allocations face a dilemma: Should they move to passive vehicles to avoid potential underperformance, settling for equity beta alone? Or maintain an active equity allocation but seek to improve the potential results? In an aging expansion where future index returns alone may no longer meet investors’ goals, we’ve found that many are opting for the latter path. But an additional challenge then emerges: how to identify managers with the potential to outperform more consistently, and at a lower cost.

In this environment, we believe investors need innovative strategies that move beyond traditional stock-picking. PIMCO addresses the challenges facing equity investors head-on, with award-winning1 nontraditional equity approaches that seek to offer more reliable and diversifying sources of alpha potential at a lower cost than with traditional active management.

Figure 1 is a bar chart that shows the percentage of active equity managers underperforming passive performers for trailing three-year, five-year and 10-year periods as of 31 December 2019. For U.S. large blend, 84.5% of active managers underperform over three years, 83.6% for five years, and 89.1% for 10 years. The charts also shows underperformance is high for other equity groups: ranging from roughly 75% to 81% from three to 10-year periods for U.S. small blend, and 67% to 75% for foreign large blend.

Unconventional solutions to common problems

While some traditional active equity managers do outperform their benchmarks, selecting a manager likely to outperform in the future is challenging. Simply relying on past results leads to performance-chasing, which may erode returns. And while studies suggest that high-active-share managers have greater potential to outperform, they also typically bring high tracking error, exceeding many investors’ risk tolerance.

Moreover, we see compelling arguments that active managers’ broad underperformance is structural, rather than cyclical. A dramatic decline in the number of listed stocks has reduced the opportunity set for stock-picking, and at the same time, a growing democratization of information and a rise in technology-driven trading strategies call into question whether stock-pickers can still gain a meaningful research advantage.

Given these realities, PIMCO developed different approaches to equity investing, with three main strategy pillars that we believe provide more reliable – and even structural – sources of excess return potential:

The figure shows three boxes, side-by-side, labeled as the following: StocksPlus®, RAE, and RAFI Dynamic Multi-Factor.

PIMCO StocksPLUS is a suite of time-tested “index-plus” strategies that seek to add alpha to various equity exposures using a nontraditional source of potential excess returns: bonds. By providing passive exposure to the investor’s target equity index through equity index futures or total return swaps, which require a minimal capital commitment, the majority of assets can be invested in a global, flexible high quality bond alpha strategy seeking to generate above-market returns. With potential for more consistent outperformance and a track record of more than 30 years, StocksPLUS may serve as a core holding within an equity allocation and provide important diversification benefits – a key advantage in late-cycle markets.

PIMCO RAE (Research Affiliates Equity) strategies are systematic, rules-based value strategies with an active investment process designed to deliver excess returns while maintaining broad diversification, economic representation, low turnover, and lower fees versus traditional active management. Value investing may offer compelling benefits in a maturing cycle, and the RAE portfolios are designed to consistently (and unemotionally) buy those stocks that are most unloved and sell or avoid those that appear overvalued. Investors with large exposures to technology and other sectors dominating growth investing today may consider RAE to be a logical complement.

PIMCO RAFI Dynamic Multi-Factor Strategies are smart beta strategies that seek to provide diversified exposure to select equity factors linked to higher returns, with a unique dynamic factor weighting methodology. Based on Research Affiliates’ Fundamental Index methodology, which weights companies based on fundamental size rather than market capitalization, these strategies offer allocations to value, low volatility, quality, momentum, and size. In addition, these factor portfolios are dynamically weighted, bringing a “buy-low, sell-high” discipline to factor investing.

Like all investments, these equity approaches come with risks, including declines in value due to both real and perceived general market, economic and industry conditions. However, the long track records for many of our equity strategies speak to PIMCO’s deep risk management resources and ability to navigate various market environments. In addition, Research Affiliates has been a pioneer in thoughtfully building and implementing rules-based equity strategies.

Innovative approaches, compelling results

For investors looking to improve their equity allocations by replacing underperforming active managers, PIMCO offers an array of equity solutions across regions, market caps, and styles. Our strategies are designed to benefit from what we view as more reliable sources of excess returns and to provide the potential for more consistent outperformance at a lower cost than traditional active equity managers. And our results have not gone unnoticed: PIMCO has won the Lipper Fund Awards’ Large Company Equity Asset Class category five times, including in 2019.

So when traditional approaches disappoint, it may be time to move off the beaten path and take a different approach to equity investing.

Equities at PIMCO: Nontraditional Solutions, Recognized Results

 1 PIMCO won the Lipper Fund Awards’ Large Company Equity Asset Class in 2019, 2013, 2012, 2011, and 2010. The awards, to quote Lipper, “highlight funds and fund companies that have excelled in delivering consistently strong risk-adjusted performance relative to their peers.”
The Lipper Fund Awards are based on the Lipper Leader for Consistent Return rating, which is a risk-adjusted performance measure calculated over 36, 60 and 120 months. The fund with the highest Lipper Leader for Consistent Return (Effective Return) value in each eligible classification wins the Lipper Fund Award. For more information, see lipperfundawards.com. Although Lipper makes reasonable efforts to ensure the accuracy and reliability of the data contained herein, the accuracy is not guaranteed by Lipper. Lipper Fund Awards from Refinitiv, © 2019 Refinitiv. All rights reserved. Used under license. Used by permission and protected by the Copyright Laws of the United States. The printing, copying, redistribution, or retransmission of this Content without express written permission is prohibited.

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Disclosures

London
PIMCO Europe Ltd
11 Baker Street
London W1U 3AH, England
+44 (0) 20 3640 1000

Dublin
PIMCO Europe GmbH Irish Branch,
PIMCO Global Advisors (Ireland)
Limited
3rd Floor, Harcourt Building 57B Harcourt Street
Dublin D02 F721, Ireland
+353 (0) 1592 2000

Munich
PIMCO Europe GmbH
Seidlstraße 24-24a
80335 Munich, Germany
+49 (0) 89 26209 6000

Milan
PIMCO Europe GmbH - Italy
Via Turati nn. 25/27
20121 Milan, Italy
+39 02 9475 5400

Zurich
PIMCO (Schweiz) GmbH
Brandschenkestrasse 41
8002 Zurich, Switzerland
Tel: + 41 44 512 49 10

Madrid
PIMCO Europe GmbH - Spain
Paseo de la Castellana, 43
28046 Madrid, Spain
Tel: +34 810 809 912

Paris
PIMCO Europe GmbH - France
50–52 Boulevard Haussmann,
75009 Paris

Equities may decline in value due to both real and perceived general market, economic, and industry conditions. Investing in the bond market is subject to risks, including market, interest rate, issuer, credit, inflation risk, and liquidity risk. The value of most bonds and bond strategies are impacted by changes in interest rates. Bonds and bond strategies with longer durations tend to be more sensitive and volatile than those with shorter durations; bond prices generally fall as interest rates rise, and low interest rate environments increase this risk. Reductions in bond counterparty capacity may contribute to decreased market liquidity and increased price volatility. Bond investments may be worth more or less than the original cost when redeemed. Investing in foreign denominated and/or domiciled securities may involve heightened risk due to currency fluctuations, and economic and political risks, which may be enhanced in emerging markets. High-yield, lower-rated, securities involve greater risk than higher-rated securities; portfolios that invest in them may be subject to greater levels of credit and liquidity risk than portfolios that do not. Derivatives may involve certain costs and risks such as liquidity, interest rate, market, credit, management and the risk that a position could not be closed when most advantageous. Investing in derivatives could lose more than the amount invested.Swaps are a type of derivative; swaps are increasingly subject to central clearing and exchange-trading. Swaps that are not centrally cleared and exchange-traded may be less liquid than exchange-traded instruments. Management risk is the risk that the investment techniques and risk analyses applied by PIMCO will not produce the desired results, and that certain policies or developments may affect the investment techniques available to PIMCO in connection with managing the strategy. Diversification does not ensure against loss.

In managing the PIMCO RAE strategies’ investments in fixed income Instruments, PIMCO utilizes an absolute return approach; the absolute return approach does not apply to the equity index replicating component of the strategy. Absolute return portfolios may not fully participate in strong positive market rallies.

Smart beta refers to a benchmark designed to deliver a better risk and return trade-off than conventional market cap weighted indices. The PIMCO RAFI Dynamic Multi-Factor Strategies are subject to equity risks as well as Model Risk, or the risk that the investment models used in constructing the Underlying Index may not adequately take into account certain factors and may result in a decline in the value of the underlying index and, therefore, the performance of the strategy. Management and Tracking Error Risk is the risk that the portfolio manager’s investment decisions may not produce the desired results or that the portfolio may not closely track the underlying index for a number of reasons.

There is no guarantee that these investment strategies will work under all market conditions or are suitable for all investors and each investor should evaluate their ability to invest long-term, especially during periods of downturn in the market. Strategy availability may be limited to certain investment vehicles; not all investment vehicles may be available to all investors. Please contact your PIMCO representative for more information.

This material contains the opinions of the manager and such opinions are subject to change without notice. This material has been distributed for informational purposes only and should not be considered as investment advice or a recommendation of any particular security, strategy or investment product. Information contained herein has been obtained from sources believed to be reliable, but not guaranteed. No part of this material may be reproduced in any form, or referred to in any other publication, without express written permission. PIMCO is a trademark of Allianz Asset Management of America L.P. in the United States and throughout the world. ©2019, PIMCO.