Ivor Schucking is Head of PIMCO’s Global Credit Research Team. Over recent years, the research capacities at PIMCO have been refined and the team has grown considerably. In this interview Mr. Schucking talks about PIMCO’s approach to credit research in a global context.

Q:  When PIMCO analyses corporate bonds or credit, what types of risks does it aim to identify?
Schucking: The primary focus of Credit Research is analysis of risk. Credit risk is a measure of the likelihood that a borrower will be able to meet its contractual financial obligations when they come due. Corporations typically borrow money by issuing bonds, and it is our job to closely analyse the credit-worthiness of individual bond issuers so that PIMCO can make informed decisions about which bonds we should hold.

There are three main areas of risk associated with an individual bond issuer. One is financial leverage, or the overall indebtedness of the company. The second is the company’s liquidity, which is related to a firm’s ability to pay off its upcoming debt maturities. The third is the value of the collateral that the company has to back up its obligations. There are several unique factors for each bond issuer, such as industry trends, quality of management and credit history. Our assessment of all these factors helps PIMCO’s portfolio managers to decide whether they think a company’s bonds are good value or not, based on the risks associated with owning them.

Q:  How is credit research at PIMCO organised?
Schucking: Our global model is in sharp contrast to many of our competitors, who generally have limited links between their analysts globally and generally follow more of a silo approach. A global research effort requires three key ingredients: a rigorous process, effective communication and teamwork. We are organised first by geography and second by industry. Analysts cover the entire ratings spectrum, from investment grade to high yield, and they look at both bonds and bank loans. Every industry has a minimum of two analysts following it. The goal is to build global synergies and to locate the best local ideas for our portfolios globally. We believe our analysts can get a better understanding of value relative to risk when they cover credits across the ratings spectrum. This is another important aspect that differentiates us from our competitors.

The discipline of research is to make explicit recommendations for portfolio managers. Portfolio managers ultimately decide whether to buy or sell a given security, since they are in the best position to judge the tolerance of a portfolio for a given risk. The credit research team provides the portfolio managers with the best tools to use when making those decisions. Both PIMCO credit analysts and credit portfolio managers pride themselves on making frequent company visits to make independent, on-the-ground assessments of companies, industries and management teams.

Although we hire credit analysts with the assumption that they will spend their careers in research, our credit research team has historically represented an important pool of talent for our portfolio management group. Several credit analysts have become portfolio managers over the past few years. Their experience as credit analysts serves to enhance the communication and integration between the portfolio management and credit research teams. 

Q:  How many credit analysts does PIMCO employ globally? 
Schucking: Credit research is a global function at PIMCO, and so we have analysts located around the world – in Newport Beach, Munich, London, Tokyo and Sydney. Our credit research team has expanded to have a truly global footprint during the past five years from a relatively small group in the US to a multinational group. Our team has an average of nine years experience and we speak 14 different languages. Of our 28 credit analysts globally, we have 15 located in Newport Beach, four in London, six in Munich, two in Tokyo and one in Sydney. We are well positioned for what we expect will be more challenging credit markets, but we are likely to add selectively to our team in the years ahead.

Q: What edge does PIMCO’s team of credit analysts have over the rating agencies, and in what ways does PIMCO have to rely on the agencies?
Schucking: Understanding and identifying the risks associated with corporate credit are extremely important aspects of bond investing. Corporate bonds have all the macro types of risk that broadly affect the bond markets, such as interest rates and economic performance. But corporate bonds also have more specific risks, such as the health of a given industry, competition, quality of management, financial disclosure and willingness of banks to lend, to name a few.

With so many moving parts, it is in the best interest of PIMCO’s clients to have credit research that lives up to our own independent standards. Credit rating agencies play an important role and we take their ratings into consideration, but we rely primarily on our own fundamental analysis to make investment decisions.

However, there still are some roles that the major rating agencies play. The investment mandates of many of our clients are based on categories – investment grade, high yield, etc. – that rely upon the ratings of the agencies, and we have to work within those guidelines for compliance purposes before we apply our more rigorous analysis. In general, our credit process is one in which we stack up our own determination of value against the market’s price. Ideally, we try to find opportunities where our credit opinions differ sharply versus the market prices and credit ratings.

Q: What factors go into evaluating a credit, and are they the same for all issuers? 
Schucking:  Ultimately, our job as analysts requires us to worry about what can go wrong and then to place probabilities on these possible events. Our role is to gather all known information about a credit, then filter and prioritise it in order of its relevance to the ultimate decision of whether it is a worthy investment for our clients. Though our research involves many known factors, we typically can boil things down to four or five key variables that are going to determine whether an investment is right for us. Those variables differ for every industry, company and management team.

Once we examine the credit, we then look at how it is being priced in the market. In theory, bond markets should offer increasing compensation as risk levels go up. But in practice, corporate bonds have an asymmetric risk return profile: at some point, the risk premium associated with a bond just won’t be enough to justify owning it.

At PIMCO, the credit analysis process starts with a broad focus, as we identify preferable industries based on the competitive landscape, growth rates, economic and interest rate sensitivity, innovation, and access to capital. From there we dig into cash flows, taking into account the size, stability and visibility of future cash flows. Then we look at balance sheets, with an eye on liquidity and leverage, then the structure of the bond deal itself. Together, all this information gives us the ability to judge the value relative to risk, which tells us whether the bonds are fairly priced.

Q: Thank you, Ivor.