With the Federal Reserve's zero interest rate policy now in its sixth year, short-term interest rates continued to trade in a narrow range as investor demand for incremental yield persisted. With money market funds paying near 0% returns, many investors have been seeking out incremental yield in short-term bonds maturing in one to three years. This increased demand for yield has put pressure on the level of interest rates overall and caused yield spreads (the additional yields offered by higher-risk securities) to narrow.
The Ultra Short-Term Bond Fund returned −0.08% in the quarter compared with 0.06% for the Barclays Short-Term Government/Corporate Index. For the 12 months ended September 30, 2014, the fund returned 0.35% versus 0.22% for the Barclays Short-Term Government/Corporate Index. The fund's 1-year and Since Inception (12/03/2012) average annual total returns were 0.35% and 0.31%, respectively, as of September 30, 2014. The fund's expense ratio was 0.49% as of its fiscal year ended May 31, 2014.
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Current performance may be lower or higher than the quoted past performance, which cannot guarantee future results.
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Investment-grade bonds, which make up the bulk of the portfolio, traded in a similar fashion to Treasuries during the quarter. Given our view that the Fed will not actively target short-term interest rates until sometime in 2015 as it begins to tighten monetary policy, we continued to position the portfolio toward the long end of our target range to take advantage of higher yields. Most of our investing has been in two- and three-year fixed rate corporate bonds, which in the face of a slow moving Fed should provide good income and relatively stable pricing in the months ahead.
Considering the low absolute level of yields and the Fed's intent to move rates higher in 2015, we remain guarded about overextending ourselves for yield alone. The two- to five-year portion of the yield curve remains most at risk for a sell-off when the Fed begins to tighten monetary policy. The Fed will need to be cautious as it transitions from a period of extraordinary easing to one of even gradual tightening. The central bank does not want to act too quickly and slow the economy back into a recession. The economic data in the months ahead should provide us with greater clarity as to the Fed's timing and pace, and we expect this period to be an interesting time for fixed income markets.