Market Review

Strong Fixed-Income Returns as Rates Decline

Interest rates declined in April in response to weaker than expected economic data, renewed sovereign credit fears and a bipartisan budget agreement that resolved the 2011 budget deficit impasse. All fixed-income sectors benefitted and in general, posted strong returns for the month. Ten-year Treasury yields rallied almost to the low end of the four-month trading range of 3.17 percent to 3.74 percent.

April’s most significant event was Federal Reserve Chairman Ben Bernanke’s first-ever press conference following a Federal Open Market Committee meeting. His comments helped dispel uncertainty and speculation surrounding future Fed policy and the end of QE2. While Bernanke stated QE2 will end as scheduled at the end of June, it is clear the Fed is in no hurry to raise interest rates. Bernanke reiterated particular concern regarding the weak labor market and expressed willingness to support the economy via low interest rates as long as necessary.

Municipal Bond Market

No Supply Equates to Strong Support

Although municipal bond outflows continued for the 24th consecutive week, municipal bond yields followed Treasuries in April, declining across the curve and generating strong returns. New-issue supply remains at historically low levels as municipalities grapple with budget deficits and are less willing to borrow. Given the current environment of austerity, we expect municipalities will seek to minimize new debt obligations on an ongoing basis. As a result, lack of supply could continue to provide strong technical support for the municipal bond market.

Taxable Bond Market

Taxable Municipals Star Performers

Taxable municipal bonds outperformed other high-grade sectors, primarily due to lack of supply. Corporate bonds also performed well as yield spreads tightened. Event risk within the corporate sector is rising as companies increasingly announce share buybacks, dividend increases and acquisitions. In general, corporate bonds are at tight valuations and some sectors are vulnerable to a correction.

Breckinridge Strategy

Heading into a Difficult Time of Year for Munis

Breckinridge remains cautious as we approach the June fiscal year-end for states and municipalities. Most are in the difficult and sometimes contentious process of trying to balance budgets, and we expect headline risk to be high. While state tax revenues have increased, they are still far below the levels reached in 2008 and earlier. We remain resolute in our focus on high-quality issuers given the uncertain environment.

Sustainable Investing

Aligning Core Values with Investment Opportunities

Breckinridge’s fundamental investment philosophy has long emphasized safety along with high credit quality, and these principles are very consistent with sustainable investing in both municipal and corporate bonds. One of our strengths is our capability in managing sustainable fixed income portfolios. The highest quality municipal bonds are often issued to finance projects that meet the most compelling public need. Breckinridge has always maintained that the more essential a bond issue’s public purpose, the greater the willingness of a municipality to support that obligation. Likewise, the highest quality corporate bonds are often obligations of companies with the most responsible business practices. As a fixed income investor seeking reliable returns, Breckinridge emphasizes long-term performance versus quarter-to-quarter results. We firmly believe that companies with the same long-term focus will prove to be safer and more sustainable fixed income investments.

Breckinridge also has a long history of customizing individual portfolios, which allows an investor to be selective and to focus on specific missions within a sustainable fixed income portfolio. For municipal bond portfolios, investors can target an overweight position in environmental, educational or infrastructure investments. Similarly, if a portfolio includes a corporate bond allocation it can be structured to align with the values of an investor. After evaluating the creditworthiness of a corporate bond, Breckinridge’s investment selection process then assesses various Environmental, Social, and Governance (ESG) data. Through this analysis, positive and avoidance “screens” can be developed and applied to portfolios.

Municipal bond investing is a particularly good fit for sustainable investors, given the beneficial and essential purpose of projects financed through municipal issues. An excellent example of such a municipal issuer is the El Paso Public Utilities (EPWU), which operates a large water and sewer system serving commercial and residential accounts in the city of El Paso, Texas. It possesses strong credit metrics, such as annual high debt service coverage. Given the region’s arid climate, EPWU has been one of the nation’s most progressive water agencies. Specifically, its EPWU Northwest Reclaimed Water Project currently provides more than 450 million gallons of reclaimed water per year through 25 miles of pipeline in northwest El Paso for applications that include city parks, landscape nurseries and sports complexes. Solid credit fundamentals and a capital program featuring responsible water-management initiatives make EPWU an exemplary investment candidate for a sustainable portfolio.

An investment in Colgate-Palmolive illustrates what sustainability can mean to a corporation. In the past, sustainability referred to competitive advantage. Today, it also encompasses ESG factors. Colgate is a high-grade consumer products company that benefits from strong market shares and a diverse, global product portfolio. The company produced $2.7 billion of free cash flow in FY 2010, equivalent to a strong 80 percent of total debt. Colgate’s long-term sustainability strategy is focused on delivering competitive financial returns, optimizing natural resources responsibly and serving the communities where it operates. Colgate scores highly on an ESG basis relative to its peers. Specifically, the company reduced water use per ton of production by 40 percent over the past decade. By combining fundamental credit analysis with an ESG assessment, Breckinridge is able to identify high quality, sustainable corporations such as Colgate, for clients interested in pursuing a sustainable investment strategy.

Investing with purpose is a deeply rooted theme at Breckinridge. It helps us meet our investors’ objectives, informs our security selection and impacts the communities in which we invest and live. Additionally, we firmly believe that responsible and purposeful investment positively affects a portfolio’s long-term safety and total return. With our Sustainable Strategies, we can now offer our clients the ability to make purposeful investments that align their core values with potential opportunities.

DISCLAIMER: The material in this document is prepared for our clients and other interested parties and contains the opinions of Breckinridge Capital Advisors. Nothing in this document should be construed or relied upon as legal or financial advice. Any specific securities listed above are for illustrative purposes and example only. They may not reflect actual investments in a client portfolio. All investments involve risk – including loss of principal. An investor should consult with an investment professional before making any investment decisions. Factual material is believed to be accurate, taken directly from sources believed to be reliable, including but not limited to, Federal and various state & local government documents, official financial reports, academic articles, and other public materials. However, none of the information should be relied on without independent verification.

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