Fixed Income
| Five-Year Global Fixed Income Strategy DFA Five-Year Global Fixed Income Fund Class A DFA Five-Year Global Fixed Income Fund Class F |
The mutual funds managed by Dimensional Canada are available only to Canadian residents, through representatives authorized by us and affiliated with approved registered dealers.
Information regarding the general investment approach and strategies we follow in the management of our fixed income fund is set out below. Specific information about the fund can be found in the prospectus.
Overview
Two factors explain the majority of returns of a fixed income portfolio. The quality factor describes how low-grade obligations have higher expected returns than high-grade obligations. The term factor describes how long-term bonds have higher expected returns than short-term bonds. Dimensional believes, however, that these premiums have not been large enough historically to reward the additional risk. Therefore, fixed income is best kept short in maturity and high in credit quality. In implementing our fixed income strategies, we employ a "no interest rate forecasting" investment philosophy. This philosophy is based on original research by Professor Eugene F. Fama, which concluded that fixed income markets efficiently price securities. It found that the best estimate of future yield curves is today's yield curve. This does not mean that the current curve will not change but that the changes are unpredictable.
Given a no-forecast approach, the issue becomes one of exploiting opportunities offered by the current yield curve. Dimensional calculates expected horizon total returns, including income and capital gains implied by the yield curve. To maximize expected returns, Dimensional chooses shorter maturities in flat or inverted yield curve environments and longer maturities in upwardly sloped curves.
Dimensional's variable maturity fixed income strategies are focused on yield curve management, the core of Dimensional's expertise in fixed income. This no-forecast strategy seeks to maximize expected returns by determining the optimal maturity choice and holding period under the current yield curve. Maturities are shifted in response to changes in the yield curve when the increased expected return offsets trading costs. Dimensional's belief is that high-quality, highly liquid securities are efficiently priced by the market.
Five-Year Global Strategy
The active vs. passive, long vs. short, and static vs. variable maturity arguments hold in developed foreign bond markets as well. With international bonds, however, there is the additional concern of foreign currency exposure. Efficient-market research conducted on exchange rates found the same random walk phenomenon. Exchange rates move unpredictably. Currency exposure tends to increase the volatility of an international fixed income portfolio, while there is no reliable evidence to suggest that the expected return of exchange rates is anything other than zero. Our belief is that currency exposure should be hedged in global bond portfolios. Generally, investors pursue global portfolios in order to diversify. Statistically, diversification should result in a lower portfolio volatility due to the combination of uncorrelated assets. If volatility is increased with the addition of global assets, the whole purpose of international diversification is defeated.
With currency exposures hedged away, the goal of diversification is attained. Introducing hedged foreign bonds into a domestic portfolio reduces the volatility of the portfolio. Portfolios of hedged global bonds take advantage of imperfect correlations among developed bond markets and enjoy the classic benefits of diversification. Further, given the global availability of highly rated debt issuers, this international diversification can be reached without sacrificing the credit standards maintained in domestic portfolios.
In terms of returns, just as investors are no longer subject to the risk of one bond market, they are no longer subject to the expected returns of just one yield curve. Expected returns across hedged bonds differ, as the shape of each yield curve is different. Portfolios can be formed that are tilted toward countries with higher expected returns. In this case, portfolio maturities and country weightings follow a variable approach based on the expected return matrix generated for each eligible country.