Loomis Sayles Bond Fund sets the pace

Kathleen Gaffney and Dan Fuss are buying all the nondollar debt they can for Loomis Sayles & Co.'s flagship bond mutual fund. They're also producing the best returns among managers who can buy government and corporate bonds anywhere in the world.

The managers of the $8.3 billion Loomis Sayles Bond Fund have 40 percent of their assets in bonds outside the United States, the most permitted under the fund's rules. Half the international holdings are in Canada, with most of the rest in Latin America and Asia.

Gaffney and Fuss target countries where they expect the currency to climb against the U.S. dollar because of faster economic growth. They say the dollar will drop this year after falling 26 percent in the past five years versus the currencies of the biggest U.S. trading partners, according to a Federal Reserve index.

The managers forecast little change in U.S. government bond yields through the first quarter.

"Currencies should be a good driver in what's likely to be a very challenging U.S. fixed-income market," Gaffney said. "We're looking for a pretty significant upside."

The no-load Loomis Sayles Bond Fund, which requires a minimum investment of $100,000, returned an average 13.8 percent a year since December 2001, according to data compiled by research firm Morningstar.

That trailed only the 15.4 percent return of the $6.1 billion Loomis Sayles Strategic Income Fund, which is also managed by Gaffney and Fuss, among the 119 funds in Morningstar's multisector bond category. In 2006, the bond fund increased 11.5 percent (through Dec. 19), second to the income fund's 11.7 percent.

The Loomis Sayles Bond fund has Morningstar's highest rating of five stars, and its Sharpe ratio at the end of November was 1.34 compared with 0.92 for the multisector bond group. A higher Sharpe ratio indicates better risk-adjusted returns.

Gaffney and Fuss own about $1.6 billion of Canadian government debt because they expect energy sales to boost the Canadian dollar, which gained 37 percent against its U.S. counterpart in the past five years.

The fund's biggest Latin American holdings are in Mexico and Brazil, where Gaffney and Fuss expect exports to drive growth.

"We're trying to see through the trees to the forest, and what is positive is that you're seeing a country where the middle class is improving its standard of living," Gaffney said. "So when the market was uncertain about the politics, that allowed us to add on to our position."

The fund has declined in one calendar year since Fuss started it 15 years ago. In 1994, it fell 4.1 percent, hurt by rising U.S. bond yields. Loomis Sayles is a unit of France's Caisse des Depots et Consignations, a state-owned money manager with $283 billion in assets.