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Rating:Fund Flows Fizzled? Phooey! Eaton Crushes Q3 Not Rated 0.0 Email Routing List Email & Route  Print Print
Thursday, August 21, 2014

Fund Flows Fizzled? Phooey! Eaton Crushes Q3

Reported by Tommy Fernandez

Record quarters come in all shapes and flavors.

The 2014 third quarter of Eaton Vance, which ended July 30, generated 63 cents per share of diluted earnings, an increase of 21 percent from a year ago, a record.

Chief executive Thomas Faust and his colleagues finessed a number of interesting factors this quarter to achieve these earnings, which the firm outlines here.

For example, the firm experienced net outflows of $2.0 billion from long-term funds and separate accounts in 2014's third quarter, compared to net inflows of $8.8 billion in the third quarter of fiscal 2013 and net outflows of $0.9 billion in the second quarter of fiscal 2014.

If you peruse the transcript of Faust's analyst conference call on the earnings, provided here by SeekingAlpha, you'll get a good drill-down of how he and his colleagues pulled off this record quarter.

Four interesting details to note are:
Eaton Faced Fizzling Loan Fund Demand, and an Interesting Platform Allocation Decision
Good Performance Is Driving Flows In Select Areas
Eaton is Prepping for an Active ETF Push
Eaton Is Bolstering Its Sales Force in Focused Areas
More on these details can be found below:

Fizzling Loan Fund Demand, and an Interesting Platform Allocation Decision
Faust had this to say on the subject of Eaton's bank loan funds, which had seen outflows during the quarter:

After several quarter of strong net inflows, retail bank loans flows turned negative in the third quarter consistent with overall industry trends and reflecting the decision by one of our largest advisory program partners to reduce their allocation to the bank owned asset class.

Without the associated $1.5 billion of withdrawals, net flows into our floating rate income strategies would have been positive in the third quarter as continuing strong institutional flows more than offset weakness in retail.

Although no one has more experience with retail loan funds than Eaton Vance, we struggle to understand the accelerated redemptions being seen today in the loan category. Loan prices are stable, credit conditions are benign and yields remain quite attractive in relation to other fixed income, sorry other floating rate instruments. Unlike holders of the fixed rate instruments, investors in floating rate bank loans do not face a loss of principle value as interest rates rise, and like investors in foreign bonds, floating rate bank loans price in U.S. dollars are not subject to currency risks.

Those seeking to explain loan funds outflows may point to a liquidity concerns, the idea that the loan asset class is not sufficiently liquid to support wide spread fund withdrawals. Throughout our 25-year record as a bank loan manager and nearly 14 years of experience managing daily liquid loan funds, weíve always been able to meet withdrawal demand as they arise including during periods of significant financial distress.

Much of the flow changes involving bank loan funds were the result of an allocation shift by one major fund platform, as Faust explains here responding to a question from Citigroup analyst Bill Katz:

So I think as you probably know platforms or advisory programs are increasing part of the mutual fund business where there is centralized decision making to some degree anyway with respect to asset allocation changes. So what happened in the quarter to us was that one of those -- one of the largest platforms, I think the largest in terms of exposure to our bank loan strategies, made an asset allocation change. They didnít speak directly to me. I donít think they would typically give a lot of color on the reason for the change. It was not a complete withdrawal, but it was a meaningful reduction in their exposure to us. We understand that the reallocation was not to another bank loan manager but it was from bank loans to some other asset class whether thatís stocks or bonds or alternative I canít really give you any color on that.

As I mentioned, this is our Ė this was our largest single platform exposure. We certainly have other large investors in our bank loan strategies, but nothing of a similar character thatís of a similar size.

This wasn't the only flow fizzle experienced by Eaton that quarter, the firm also saw some outflows from high yield bond funds, of about $100 million. The firm also lost a $900 million high yield subadvisory contract when the sponsor decided to go in-house, according to Faust.

Good Performance Is Driving Flows In Select Areas
Eaton's municipal fund lineup, including high-yield muni, national municipal income, AMT free municipal income, muni opportunities and TAS long term funds, saw top decile performance rankings for the year-to-date. This was in part to Eaton's managers avoiding Puerto Rican debt. Consequently, muni flows turned modestly positive for the quarter.

Better performance and flows were also seen in global income, including global macro absolute return, diversified currency and emerging market income strategies, which in total represent almost $9 billion in managed assets. Flows in the quarter were negative, roughly $365 million, but that is a big improvement over the $2.6 billion of outflows in the first half of the year.

Flows improved also in the emerging market equity strategy managed by Eaton's affiliate Parametric. Net inflows in the third quarter were almost $400 million, up from $200 million in the second quarter and less than $100 in the first quarter. These were driven by favorable performance in Parametric's flagship funds.

Four burgeoning Eaton franchises also saw flows: Eaton's two Richard Bernstein sub advised funds, the Parametric Clifton defensive equity strategy, latter municipal bonds, separate accounts and a multi sector income strategy. During the third quarter, total assets in these four franchises grew $1.4 billion or 31% to $7.7 billion.

Eaton is Prepping for an Active ETF Push
Faust had to say this on the subject of Eaton's ongoing efforts into this space:

I want to close with an update on our exchange rate of managed funds or ETMF imitative. As many of you know, ETMFs or proposed new type of open end fund that seek to provide the performance and tax advantage of exchange traded funds to active investment strategies while maintaining the confidentiality of portfolio trading information.

Unlike ETFs, ETMFs would not disclose their portfolio holdings on a daily basis. ETMFs would be brought and sold on an exchange utilizing a new trading protocol called NAV base trading. Our navigate fund solutions subsidiary hold the series of patterns that we seek to commercialize by licensing them to fund sponsor by Eaton Vance and other fund groups. Since our last earnings report we have continued to work towards regulatory approval and commercial loans. On July 30, we filed registration statements for 18 initial ETMFs to be offered by Eaton Vance.

While we canít predict the outcome of the regulatory process, we remain confident that if approved, ETMFs have the potential to transform our actively managed strategies or deliver the fund investors in the U.S. with potentially quite significant financial implications for Eaton Vance.

Eaton Is Bolstering Its Sales Force in Focused Areas
Faust had this to say in response to questions from JP Morgan's Ken Worthington:

The biggest change over the last year for us is the one that you touched on, which is the change at Parametric. As you may know prior to the acquisition of Clifton Group at the end of 2012, Parametricís institutional products were represented by Eaton Vance institutional sales team. When we acquired Clifton we made the decision to move to a separate sales force for Parametric in the North American institutional market where the initial sales team were the members of the Clifton team.

We have added to that team over the last year, pretty aggressively, initially there were a total of three sales client service and consultant relations people, over the last year or little over a year thatís grown to Iíd say, probably about eight people, four sales -- four field sales people, but backing that up with the consultant relations people and client service people.

So, three to letís say eight or nine people on that team with the expectation for continued growth. On the retail side, the biggest change over the last year has been the addition of our wealth strategies group, which is a -- Iíll say five person or six -- I think six person team based here in Boston, but focused on strategies for high net worth investors in the retail channel, both drawn from Parametric, but also from Eaton Vance.

So those are the two major changes really focusing on growth opportunities we see for Parametric now combined with Clifton on the institutional side, plus wealth strategies, opportunities we see within retail for both traditional Eaton Vance strategies, as well as Parametric strategies.

Read more in the SeekingAlpha transcript  

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