Morningstar Magazine - February/March 2018 - 24

Dispatches

devotee of behavioral economics, Ivascyn is intent
on circumventing pitfalls such as overconfidence
and confirmation bias. He began recording the
views of forum and committee participants before
and after discussions, for example, to measure
more-subjective elements of the process. The goal
is to understand the dispersion of opinions, and
whether discussion changed views. Ideally, the
team can assess when a climate of agreement or
disagreement has led to decisions that produced
better or worse outcomes, and hone its process.
Ivascyn has sought out fresh views. For example,
he has included a rotating group of relatively
junior team members to bring fresh insights to the
investment committee. The team has also sought
the views of external advisors, including the
global advisory board it set up in December 2015.
That group is chaired by former Federal Reserve
Chairman Ben Bernanke and includes other
prominent global financial and political leaders.
PIMCO has also expanded its hiring net beyond the
traditional pipeline of business-school candidates.
Quantitative analysis is another safeguard against
behavioral biases. The quantitative analytics team
led by Ravi Mattu has become more central to the
investment process than it had been under Gross.
When Mattu, who had previously overseen
research efforts at Citadel and Lehman Brothers,
first joined PIMCO in 2011, the quantitative
research group numbered roughly 20 members. It
has expanded to more than 60.
Ivascyn has also changed the way the investment
team works with the firm's risk management
group, run by Bill De Leon. When Gross was in
charge, the centralized risk team was more
defensive, calling out managers when their
portfolios stepped out of line. And to be sure, De
Leon's team still performs intensive surveillance,
running results through the investment committee
weekly. He also now has a dual reporting line up
to the executive office as well as to Ivascyn, giving
him an outlet for escalating concerns outside
of the investment group. But Ivascyn has tried to
employ risk management in a more strategic
way. Each investment strategy now has a
dedicated risk manager who works closely with
portfolio management teams. According to Ivascyn,
De Leon, and various portfolio managers, that

Morningstar February/March 2018

specialization allows the risk managers to develop
a deeper understanding of what constitutes
risk in different markets, stay on top of how risks
shift over time, and set parameters accordingly.
We've generally maintained a favorable view of
PIMCO's investment team and are encouraged by
the improvements made to an already strong
investment process, but the firm still has room to
improve in a few areas. For example,
Unconstrained Bond PFIUX has struggled to
distinguish itself as it has passed through multiple
hands since former lead manager Chris Dialynas
stopped running it in 2013. PIMCO's emergingmarkets bond funds had also experienced setbacks,
suffering hefty losses amidst the broad sell-off
in those markets in 2014 and 2015.
PIMCO hasn't generally settled for mediocrity,
though. For example, under the leadership of Mike
Gomez, PIMCO has realigned team members into
more suitable roles and brought in external hires.
Other improvements include the establishment of
an emerging-markets portfolio committee to meet
alongside the firm's standing Americas, European,
and Asia-Pacific portfolio committees and the
introduction of more specialization among team
members. Finally, Gomez has insisted on making
more time for on-the-ground country research.

All in all, PIMCO's resurgence is impressive. With
the distraction of a leadership crisis and outflows
behind it, the stable and well-resourced
investment team appears as focused as ever on
delivering competitive results. In many cases,
the firm's resilience has led to upgrades, including
for PIMCO Total Return, which showcases the
firm's strengths across global fixed-income
markets.
Eric Jacobson is a senior analyst, manager research, with
Morningstar Research Services.

International-Stock
Funds Surge
By and large, 2017 was highly rewarding for
international-stock funds, as markets around the
world saw gains almost across the board.
Expectations of stronger growth in the United

States fueled part of that surge. In most of Europe,
cautious optimism and modest but encouraging
rates of growth replaced years of concern
about weak economies, debt burdens, and political
turmoil. (An exception was the United Kingdom,
where ongoing negotiations over the country's
prospective exit from the European Union brought
uncertainty and concern.) Japan's economy
also perked up.
Meanwhile, emerging markets were bolstered by
stunning gains in Chinese Internet and technology
stocks. Some of these companies rose 60% or
more in 2017, with Internet conglomerate Alibaba
BABA nearly doubling in price. Other emerging
markets soared, too. The India stock Morningstar
Category, for example, was up 46.8%. Not every
emerging market was that strong-the gains in
Russia and Mexico were pedestrian, for instance.
But overall, the diversified emerging-markets
category posted a healthy 34.2% average return.
The vast majority of currencies around the world
also strengthened against the U.S. dollar.
That provided a boost for nearly all U.S.-based
stock funds investing in foreign markets.
When these funds translate the returns of their
stock holdings into dollars, the returns include not
just the increase in price of their stocks but the
increase in currency value as well. The only funds
that didn't receive this extra bonus were
the few that fully hedged their foreign-currency
exposure into the U.S. dollar.
The impact of currency gains was substantial. The
MSCI Europe Index, for example, rose 13.1% in
local-currency terms, but gained a mighty 25.5%
when translated into U.S. dollars.
With markets so robust overall, the internationalstock funds that failed to keep pace typically
held more than a few percentage points of assets
in cash, or they shied away from the high-flying,
market-leading Internet and technology stocks.
Invesco International Growth AIIEX, which had
a strong long-term record entering 2017, brought
up the rear of the foreign large-growth category
(while still posting a 22.6% return). Its managers
believed that Internet leaders such as Tencent
TCEHY and Alibaba were overpriced, and they had

Table of Contents for the Digital Edition of Morningstar Magazine - February/March 2018