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Hartford Schroders Emerging Markets Multi-Sector Bond Fund

May 2019 Monthly Update

Performance (%)
% (as of 5/31/2019)
Average Annual Total Returns % (as of 5/31/2019)
YTD 1YR 3YR 5YR 10YR SI
Hartford Schroders Emerging Markets Multi-Sector Bond  I 6.78 3.45 5.64 2.59 --- 3.55
Benchmark 5.73 5.08 5.14 2.67 --- ---
Morningstar Emerging Markets Bond Category 6.00 4.47 4.93 1.71 --- ---
Performance (%)
% (as of 3/31/2019)
Average Annual Total Returns % (as of 3/31/2019)
YTD 1YR 3YR 5YR 10YR SI
Hartford Schroders Emerging Markets Multi-Sector Bond  I 6.43 -0.83 6.01 3.37 --- 3.60
Benchmark 5.02 0.34 4.97 3.21 --- ---
Morningstar Emerging Markets Bond Category 5.47 0.51 5.21 2.33 --- ---
SI = Since Inception. Fund Inception: 06/25/2013
Operating Expenses:   Net 0.91% |  Gross  1.03%
Performance prior to 10/24/16 for Class I-shares reflects the performance, fees, and expenses of the Investor Class of the Predecessor Fund. If Class I fees and expenses were reflected, performance would have differed. SI performance is calculated from 6/25/13.

Performance data quoted represents past performance and does not guarantee future results. The investment return and principal value of an investment will fluctuate so that an investor's shares, when redeemed, may be worth more or less than their original cost. Current performance may be lower or higher than the performance data quoted.

 

Market Review

May was a great month for demonstrating how the differing drivers of emerging markets debt (EMD) are affecting returns—and the landscape of future returns that can be expected in the current environment. Mixed returns across investment-grade and high-yield EMD segments point to why it is difficult to presume a monolithic outcome for EMD across medium-term outcomes. Macro environments can affect the probability of different outcomes across different parts of the asset class, and returns will vary, often quite widely; May has provided a microcosm of this. Investment-grade EMD seems to have reasonably bright prospects as the markets have migrated toward pricing in rate cuts. Assuming the market is even approximately right, bonds with generous yields above US Treasuries relative to other asset classes, but with somewhat high (BBB) to very high (A) correlations to US Treasuries, should be a favored destination. Non-investment grade debt is less straightforward. Risk aversion almost certainly constrains return probabilities, but permissive US Federal Reserve environments are historically generous to this sub-sector, as demonstrated by the two-year spread compression after Janet Yellen delayed the rate-hiking cycle in February 2016. So while trade war rhetoric has been dominant this month, one's caution should be tempered by history.

In May, dollar-denominated corporates and sovereigns continued their strong year-to-date performance. Dollar-denominated sovereigns, represented by the J.P. Morgan EMBI Global Diversified Index, and corporates, represented by the J.P. Morgan CEMBI Broad Diversified Index, returned 0.41% and 0.49% in May. Local currency sovereigns, represented by the J.P. Morgan GBI-EM Global Diversified Index, returned 0.30%. Investment-grade bonds was the best performing segment as markets reacted to trade war escalation with a flight to quality. The investment-grade segment returned 1.31% in dollar-denominated sovereigns and 1.05% within corporates. In local currency sovereigns, Asia was the top-performing region while the riskier Africa region lagged. Belize, Kuwait, and Chile were the top performing countries, returning 5.28%, 2.73% and 2.06% respectively. Within corporates, the best performing sectors were oil & gas and infrastructure, while the consumer and metals lagged. Within local currency sovereigns, Latin America was the worst performing region, led by Argentina and Colombia returning -16.06% and -2.59% respectively. Turkey was the top performer with a monthly return of 7.22%, partially retracing losses from prior months.

 

Portfolio Positioning 

The Fund (Class I Shares) returned -0.11% in May, underperforming its blended benchmark, which returned 0.40%. Sector selection was positive for the month, benefitting from our underweight to local currencies—the worst performing EMD segment—and our overweight to dollar sovereigns. This positive contribution was offset by sovereign issue selection, which was negative for the period. Among the leading detractors was Pemex. Our longer dated bonds (maturing in 2035 and 2046) returned -2.11% and -1.77% respectively. Egypt and Ecuador sovereigns also detracted, posting total returns of -0.66% and -2.47% in May. The Fund’s top sovereign contributors were Argentine provincials, Saudi Arabian Oil Company, and Petrobras. Selection within corporates was positive for the period, which partially offset the negative impact from sovereigns. Our regional allocation within local currencies was the largest detractor for the month. The local currency underweight to Turkey was the largest detractor as Turkey was the top performing country in local currency sovereigns. The overweight to Indonesia was also a modest detractor, with Indonesia returning -0.21% in May, as measured by local currency sovereigns. We continue to maintain a duration1 overweight position, ending the month 1.28 years overweight the blended benchmark.

 

Market Outlook

A quick glance at recent equity returns is enough to conclude that trade wars are negative for virtually all asset classes not recognized as safe havens. Of course, EMD is no different. However, there is a prevalent perception that, because China growth would be negatively impacted by an extended period of trade tensions, the broader emerging market will suffer disproportionately. That is not necessarily the case, and under certain conditions, some parts of the asset class could outperform. We believe the broad assumption that global growth will slow under extended tensions, with the US and China most affected, are probably correct and that markets will price in those deteriorating prospects accordingly. As a result, we believe that so much of EMD, along with most other asset classes, would be negatively affected.

However, the roughly 15% of EMD with a high correlation to US Treasuries and single A bonds will do well under a scenario where bonds broadly rally, even if spreads to the developed markets go a bit wider. The rest of the investment grade universe, the bulk of dollar debt indices, would likely perform worse, but not terribly given still high correlations to US Treasuries. Therefore, if history is any guide, we feel that this is not an exposure that investors should jettison even under negative assumptions about the future.

The non-investment grade rated space would likely do worse, and here we saw negative returns of around 24 basis points2 in May. Should investors prefer to hold this part of an asset allocation—given current 8% yields—rather than hold other more highly price-inflated parts of their portfolio? We think yes, given the high transaction costs associated with trying to time entries and exits. But we are under no illusions that in the very short term, as equities correct, risks of some price falls here are high.

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1 Duration is a measure of the sensitivity of an investment’s price to nominal interest-rate movement.

2 A basis point is a unit that is equal to 1/100th of 1%, and is used to denote the change in a financial instrument. The basis point is commonly used for calculating changes in interest rates, equity indexes and the yield of a fixed-income security.

 

Important Risks: Investing involves risk, including the possible loss of principal. Security prices fluctuate in value depending on general market and economic conditions and the prospects of individual companies. ● Fixed income security risks include credit, liquidity, call, duration, and interest-rate risk. As interest rates rise, bond prices generally fall. ● Investments in high-yield (“junk”) bonds involve greater risk of price volatility, illiquidity, and default than higher-rated debt securities. ● Restricted securities may be more difficult to sell and price than other securities. ● Derivatives are generally more volatile and sensitive to changes in market or economic conditions than other securities; their risks include currency, leverage, liquidity, index, pricing, and counterparty risk. ● Foreign investments may be more volatile and less liquid than U.S. investments and are subject to the risk of currency fluctuations and adverse political and economic developments. These risks may be greater for investments in emerging markets or if the Fund focuses in a particular geographic region or country. ● The Fund may have high portfolio turnover, which could increase its transaction costs and an investor’s tax liability. ● The Fund invests in a smaller number of issuers, so it may be more exposed to risks and volatility than a more broadly diversified fund.

 

The views expressed herein are those of Schroder Investment Management North America Inc. (Schroders) are for informational purposes only, and are subject to change based on prevailing market, economic, and other conditions. They may not reflect the views of Hartford Funds or any other sub-adviser to our funds and should not be construed as research or investment advice or as an offer or solicitation to buy or sell any security.

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