Pimco fund manager Benjamin Trosky, who runs the Pimco High Yield Fund, looks for undervalued companies, though he mainly wants to make sure they can pay their debts.
"We are 100 percent fundamental-research driven," Trosky explained in an interview from Pimco's trading desk, where he spends most of each day. "We look for the credit equivalent of intrinsic value. We grind away, we talk to managers. I'm a stock picker who gets the benefit of the support of one of the best top-down shops in the business."
That has given him a return of 0.40 percent in the first eight months of this year on assets of $3.82 billion, compared with 0.03 percent for the average high-yield bond income fund tracked by Bloomberg Fund Performance. Investment-grade corporate bond funds lost an average of 1.52 percent.
Over the longer term, Trosky has done even better, returning an average of 8.89 percent for each of the past three years.
That ranks him fourteenth out of 498 high-yield funds tracked by Bloomberg.
Another tribute to the fund's long-term performance was its recent selection by the research group Morningstar Inc. as a new member of the 401(k) retirement plan for the mutual fund research company's own employees. The fund also received Morningstar's five-star rating, its highest.
Though the bonds he buys are considered high-risk, Trosky doesn't intentionally seek troubled companies to increase returns. On the contrary, the companies whose debt he most wants to own are those that regularly fulfill their business plans and make good on their promises. Often this means younger enterprises that aren't yet well-established and therefore haven't earned investment-grade credit ratings.
He cites one core holding he especially likes--McLeodUSA Inc., a local and long-distance telephone company that serves the Midwest and Rocky Mountain regions. The company has "executed brilliantly and has been able to deliver on the operations front on a business plan that has shown prudence," Trosky said.
Trosky is both picky and patient. He said he sometimes spends years following a company before he's convinced it's appropriate for his investors.
That's how he decided to invest in NTL Inc., which offers residential cable television, telephone and Internet services in Britain.
"What got me over the hump was seeing every six months for four years they delivered consistently on their operating plan--homes crossed, penetration, technology, numbers of channels offered, 50 percent of cable subscribers subscribing to telephone service," Trosky said.
That's the kind of company on which Trosky prefers to place his bets. He also likes diversity, with no single holding larger than 1.8 percent of the portfolio.
Still, when things do go bad for an investment, as they inevitably do for any manager of high-yield debt, Trosky can play hardball to recoup for his investors.
As an example, he points to an investment in "a first mortgage of a trophy property that was part of the Olympia & York empire," whose U.S. unit filed for bankruptcy protection in 1995. "We wedged ourselves between two high-profile investors and harassed them into buying us out at a premium to the market so they could pursue their agendas," Trosky said.
Every investment decision, though, "is made purely on economic value," he said. "To the extent we are more sanguine about the world, we take more credit risk."
There are substantial risks in junk-bond investing, with parallel rewards of higher returns. Still, Trosky considers himself conservative, and says his fund is "designed to mitigate to some extent all risks."
There is the risk that during some periods, higher-quality bonds will outperform lower-quality bonds in terms of price and yields. Pimco High Yield and other funds that attempt to minimize credit losses due to bankruptcies are somewhat insulated from such situations, but funds that try to raise their yields by investing in riskier bonds may find that losses due to defaults outweigh gains from the higher yields of the bonds, he said.
Trosky also considers his team "more than competent credit analysts."
Still, he makes mistakes. "The absolutely worst loss we had would be in some of the bonds of Sun Health Care, one of our very few defaults," he said. "With 20-20 hindsight, they didn't have a handle on expenses when reimbursements for long-term health-care providers were being dramatically cut by Medicare programs. They blindsided us. They came in with numbers far off the radar screen."
Trosky measures the performance of his fund against the Lehman Brothers "BB" intermediate bond index, because the average credit risk of the bonds in his portfolio is "BB." So far this year, the fund is slightly underperforming the index.
In terms of its peers, Trosky has done better. Over the past five years, the fund has returned an average of 10.70 percent annually compared with an average of 6.98 percent for the 191 high-yield funds tracked by Bloomberg, placing it as the seventh-best performing fund.
In October, Trosky will turn 40, which means he has spent more than half his life assessing companies and their credit risk.
"If you'd told me in high school that I'd go on to trade junk bonds, I couldn't have put that together," he said. It was during a college internship program in 1979 at Philadelphia's Drexel University, where he was a business major, that he joined Girard Bank, calculating oil and gas equivalencies and electric utilities accounting.
Since then, he has worked through a string of bond crises, such as the crash of 1987 and the recent Asian and Russian debt troubles. He joined Pimco in 1990 and now serves as managing director.
His fund paid no capital gains and a total of 91 cents in taxable income distribution per share last year.
It has both load and no-load classes. The highest load is a maximum 5 percent sales fee for the B shares, depending on how long the shares are held. After the seventh year, there is no fee. The D shares carry no load, nor do the institutional classes.