Fixed-Income:

Buy Side, Sell Side, and Research Opportunities

Buy Side – • Buy side is difficult to break into, thus why limit yourself to equity buy

side shops.

• Financial analysis is similar for both credit fixed income and equity.

Research –• Equity research has been affected by over regulation (i.e. hardening of

the Chinese Wall).

• Fixed Income research is less regulated and gives individuals opportunity to have exposure to Sales and Trading.

• Great intermediate step to S&T, Buy Side, or Corporate Job.

Sell Side S&T –• Majority of firms do not hire separately for fixed income and equities.

• Once hired into a S&T program, will be exposed to both equity and fixed income.

• May be helpful to understand basic fixed income for interviews.

Why should you consider Fixed Income?

Buy Side Fixed Income Buy side fixed income firms are structured similar to most Buy side fixed income firms are structured similar to most

equity buy side shops.equity buy side shops.• Portfolio Mangers and Research Analysts – They decide on investment Portfolio Mangers and Research Analysts – They decide on investment

decisions such as which corporate bonds to buy.decisions such as which corporate bonds to buy.

• Traders – They contact and receive offers from the sell side and analyze market Traders – They contact and receive offers from the sell side and analyze market color and conditions.color and conditions.

Differences between buy side fixed income and equityDifferences between buy side fixed income and equity• Many more products including non-corporate instruments such as Municipals, Many more products including non-corporate instruments such as Municipals,

MBS, ABS, and Treasuries.MBS, ABS, and Treasuries.

• Most equity shops have teams or individual portfolio managers who are Most equity shops have teams or individual portfolio managers who are responsible for industry specific funds. This is rare on the fixed income side.responsible for industry specific funds. This is rare on the fixed income side.

• Much like managing a specific sector of the equity market (i.e.. small cap Much like managing a specific sector of the equity market (i.e.. small cap equity), fixed income PMs manage portfolios based on either product (MBS), equity), fixed income PMs manage portfolios based on either product (MBS), credit quality (High Grade vs. High Yield), maturity (short duration vs. long credit quality (High Grade vs. High Yield), maturity (short duration vs. long duration), and region (Europe vs. Emerging Markets).duration), and region (Europe vs. Emerging Markets).

Buy Side Fixed Income (cont’d) Typical Buy Side Fixed Income Funds (Typical Buy Side Fixed Income Funds (Source: Morgan Stanley Source: Morgan Stanley

Investment Management)Investment Management)

Buy Side Fixed Income (cont’d) Majority of PMs graded against Lehman and Salomon Indices (Majority of PMs graded against Lehman and Salomon Indices (Source: Source:

Lehman Brothers)Lehman Brothers)

An Example on How a Fixed Income Buy Side Shop Might Operate: Teams are separated into three main groups: Credit, Non-Teams are separated into three main groups: Credit, Non-

credit, and interest rates.credit, and interest rates.• Credit group, including High Yield and High Grade, make bets on Credit group, including High Yield and High Grade, make bets on

individual companies. Those interested in equities may find individual companies. Those interested in equities may find opportunities here.opportunities here.

• Non-credit group manages portfolios of MBS, ABS and non-corporate Non-credit group manages portfolios of MBS, ABS and non-corporate related securities. Highly quantitative folks should look into positions related securities. Highly quantitative folks should look into positions in this area.in this area.

• Interest rate team works with both groups to set duration decision for Interest rate team works with both groups to set duration decision for all the portfolios. Thus, will work with credit group to decide value all the portfolios. Thus, will work with credit group to decide value proposition on buying longer or shorter maturities. Work with MBS proposition on buying longer or shorter maturities. Work with MBS group to manage interest rate risk while monitoring issues dealing with group to manage interest rate risk while monitoring issues dealing with prepayments and other product specific issues. prepayments and other product specific issues.

Fixed Income Firms Most all buy side shops have fixed income funds Most all buy side shops have fixed income funds For those interested in equity buy side, may want to For those interested in equity buy side, may want to

look into High Yield/Distressed credit.look into High Yield/Distressed credit. Some of the largest and most prestigious firms Some of the largest and most prestigious firms

include:include:• Pacific Investment Management Company (PIMCO)Pacific Investment Management Company (PIMCO)• BlackRockBlackRock• Trade Company of the West (TCW)Trade Company of the West (TCW)• Western Asset Management Company (WAMCO)Western Asset Management Company (WAMCO)• FidelityFidelity• VanguardVanguard• Morgan Stanley Investment ManagementMorgan Stanley Investment Management• J.P. Morgan Investment ManagementJ.P. Morgan Investment Management

For you equity buy side folks………….. High Yield and Distressed Fixed Income securities are very High Yield and Distressed Fixed Income securities are very

equity like thus an equity type analysis is required. equity like thus an equity type analysis is required. For example, many buy side funds (especially hedge funds) For example, many buy side funds (especially hedge funds)

invest in distressed bonds thus end up owning a majority share invest in distressed bonds thus end up owning a majority share of companies coming out of bankruptcies.of companies coming out of bankruptcies.

Examples include:Examples include:• K-mart – ESL and Third Avenue Funds bought majority of distressed K-mart – ESL and Third Avenue Funds bought majority of distressed

securities prior to the K-mart bankruptcy and had majority ownership securities prior to the K-mart bankruptcy and had majority ownership of the equity of the company coming out. Fixed income analyst was of the equity of the company coming out. Fixed income analyst was responsible for the investment decision.responsible for the investment decision.

• Adelphia – WR Huff Asset Management is one of Adelphia’s largest Adelphia – WR Huff Asset Management is one of Adelphia’s largest Bond holders (BW article June 14, 2004). Bond holders (BW article June 14, 2004).

These are just examples. There are many firms out there with These are just examples. There are many firms out there with potential opportunities thus cast a wide net!potential opportunities thus cast a wide net!

Fixed Income Research (cont’d) Those interested in Equity Research should consider Those interested in Equity Research should consider

Fixed Income Credit ResearchFixed Income Credit Research SimilaritiesSimilarities

• Similar types of financial analysis. More balance sheet driven when Similar types of financial analysis. More balance sheet driven when looking at High Yield and distressed companies. looking at High Yield and distressed companies.

Must understand industry – industry trends, competitive position Must understand industry – industry trends, competitive position (porter type analysis), and future prospects.(porter type analysis), and future prospects.

Must understand the fundamentals of a company – cost drivers, Must understand the fundamentals of a company – cost drivers, balance sheet (key for high yield), leverage and coverage ratios, balance sheet (key for high yield), leverage and coverage ratios, debt covenant analysis, legal and earnings analysis.debt covenant analysis, legal and earnings analysis.

• Writing Involved (but less, definitely a plus)Writing Involved (but less, definitely a plus)

• Analyst are separated into industry groups Analyst are separated into industry groups

• Analyst on fixed income side are also worried about those Institutional Analyst on fixed income side are also worried about those Institutional RankingsRankings

Fixed Income Research (cont’d) Those interested in Equity Research should consider Fixed Those interested in Equity Research should consider Fixed

Income Credit ResearchIncome Credit Research DifferencesDifferences

• The analysis is less story telling and more fundamental analysis. Don’t The analysis is less story telling and more fundamental analysis. Don’t really care about the upside just want interest payments.really care about the upside just want interest payments.

• Must analyze separate bond issues unlike equity. Thus must Must analyze separate bond issues unlike equity. Thus must understand priority claims and maturity issues (relative value).understand priority claims and maturity issues (relative value).

• Less Restrictions on Fixed Income Analyst. Thus analysts are usually Less Restrictions on Fixed Income Analyst. Thus analysts are usually on the trading floor working with Sales and Traderson the trading floor working with Sales and Traders

• Many analyst cover several industries.Many analyst cover several industries.• Many firms compensate analyst on performance of the trading desk.Many firms compensate analyst on performance of the trading desk.• Analyst make proprietary decisions which flow traders make. Traders Analyst make proprietary decisions which flow traders make. Traders

are often times required to get clearance form analysts.are often times required to get clearance form analysts.• If there is a proprietary trade, analysts are not allowed to publish.If there is a proprietary trade, analysts are not allowed to publish.• Hours are more similar to S&T but worse.Hours are more similar to S&T but worse.• This position definitely sets one up for buy side firms…….This position definitely sets one up for buy side firms…….

Fixed Income Research (cont’d) There are many other opportunities on the There are many other opportunities on the

non-credit side of the businessnon-credit side of the business• They include MBS, ABS, derivatives (CDS), and interest They include MBS, ABS, derivatives (CDS), and interest

rate research. Outside of the credit realm, more rate research. Outside of the credit realm, more quantitative individuals are needed.quantitative individuals are needed.

How do I get into Credit Research?How do I get into Credit Research?• Most firms go through their S&T program.Most firms go through their S&T program.

• Lehman separated their credit research last year.Lehman separated their credit research last year.

• Be sure to understand if a firm values their research. For Be sure to understand if a firm values their research. For example, many firms are cutting research across the board. example, many firms are cutting research across the board. Others have research as part of their corporate strategy.Others have research as part of their corporate strategy.

Specifics on Credit S&T Ask about the requirements to get into credit Sales Ask about the requirements to get into credit Sales

and Trading.and Trading.• Many firms require associates to go through research for 1 Many firms require associates to go through research for 1

to 2 years before getting on a credit desk. to 2 years before getting on a credit desk. Like previously stated, understand what is going on Like previously stated, understand what is going on

in the credit markets.in the credit markets.• Margin compression – not as severe as equity markets due Margin compression – not as severe as equity markets due

to the lack of liquidity and efficiency. to the lack of liquidity and efficiency.

• The derivative markets are becoming essential to the .The derivative markets are becoming essential to the . Bonds are boring? But markets can be volatile. For Bonds are boring? But markets can be volatile. For

example in 1998.example in 1998.

Fixed Income S&T Most firms are hire into a generalist pool and then figure Most firms are hire into a generalist pool and then figure

which desks you will go to. Thus, even if you don’t want which desks you will go to. Thus, even if you don’t want fixed income…too bad.fixed income…too bad.

Over the past few years, fixed income markets have been hot, Over the past few years, fixed income markets have been hot, thus fixed income desks have continued to establish thus fixed income desks have continued to establish themselves within investment banks.themselves within investment banks.

Bonds sound boring…..but markets can be volatile. For Bonds sound boring…..but markets can be volatile. For example in 1998.example in 1998.

When going into the business, understand what you want and When going into the business, understand what you want and know where the business is going (issues dealing with margin know where the business is going (issues dealing with margin compression). Some areas are worse than others.compression). Some areas are worse than others.

I’ll leave issues for S&T to the finance club.I’ll leave issues for S&T to the finance club.