Harbor Capital: Using Science To Access Income

[This ETF Industry Perspective is sponsored by Harbor Capital.]

Harbor Capital Advisors, Inc. (“Harbor”), a premier multimanager investment firm offering access to specialized expertise across a range of investment strategies and vehicles, recently launched its first ETFs—the Harbor Scientific Alpha Income ETF (SIFI) and the Harbor Scientific Alpha High-Yield ETF (SIHY). Here, Steve Cook, head of ETFs, discusses what makes these ETFs stand out.

Tell us about your new ETF offerings, SIFI and SIHY. Why these particular strategies, and why was now the right time to launch these ETFs?
Historically, fixed income investors have had two choices: traditional active discretionary investing or index investing. We believe that scientific active fixed income investing provides a compelling third choice to investors looking to achieve alpha potential plus income, a particularly welcome choice in today’s low yield environment.

The Harbor Scientific Alpha Income ETF (SIFI) seeks to provide income and total return to investors with a lower volatility than investing solely in the high yield market. The Harbor Scientific Alpha High-Yield ETF (SIHY) seeks to outperform a broad USD high yield index.

Both are active strategies that we believe have a place in investor and allocator portfolios in all market conditions. We believe investors will welcome the potential for diversifying their core allocations with new sources of high quality returns versus similarly themed traditionally active or index products.

Ultimately, SIFI and SIHY offer cost-efficient solutions to gaining access to differentiated, actively managed and scientifically driven fixed income exposure in the U.S. multisector and high yield bond categories.

Tell us about scientific fixed income investing and its potential benefits to investors.

At its essence, scientific fixed income investing stipulates that its investment process is grounded in the scientific method and subject to continual refinement.

What does this mean? It means that the investment process engages in each aspect of the scientific method—systematic observation, gathering of information, formulation of hypotheses, experimentation, drawing conclusions, and the continual modification of hypotheses.

Both ETFs are managed by BlueCove, who are seasoned professionals in scientific fixed income portfolio management.

Using this scientific process is obviously a distinctly different approach than what many investors would consider traditional active, or index investing in fixed income, and has proven to have multiple outcome benefits for investors, including:

• The potential to generate returns with a low correlation to those of traditional managers, making them complementary to, and competitive with, their traditional counterparts;
• An increased probability of repeatable outcomes given the redeployment of human discretion to minimize cognitive and emotional bias;
• A technology-enabled increase in investment breadth;
• Transparency in decision-making allowing for granular decision and performance attribution and continuous improvement of the investment process; and
• A firm-level scientific investment process that minimizes key person risk, improving knowledge management at the firm level.

You mentioned BlueCove as the funds’ investment manager. Why was BlueCove the right fit?
It’s important to share that sourcing specialized investment talent is at Harbor’s core. BlueCove checks all the boxes that—as any team focused on due diligence would see—is solely dedicated to scientific fixed income investment management.
The firm was founded in 2018 and brings together leading fixed income industry investment and engineering professionals with expertise and a collective passion for scientific investment management.

BlueCove’s intent is to research and develop state-of-the-art scientific investment processes applicable to fixed income investment management. Their mission is to create market-leading scientific fixed income investment solutions designed to give investors both an alternative and a complement to the traditional discretionary fixed income strategies that dominate the industry today.

What drives BlueCove’s approach is the specific purpose of delivering superior investment outcomes for investors by researching and developing state-of-the-art scientific investment processes applicable to fixed income investment management.
More specifically, their approach to the management of fixed income aims to strip the traditional investment process of its weaknesses. It is thus reduced to its component parts—universe definition, data sourcing, alpha sourcing, portfolio construction, trade execution and process review. These are then reassembled, with people and technology assigned the roles to which BlueCove feels they are best suited.

At BlueCove, human discretion remains central to the process but is directed away from areas in which it is relatively weak (such as subjective forecasting) and toward those in which it is relatively strong (such as objective analysis).

Additionally, technology is given the tasks to which it is uniquely suited, such as processing vast quantities of diverse investment data, or unemotionally assessing risk, return and liquidity trade-offs in portfolio construction.

Many traditional discretionary active managers use a siloed investment process dependent upon individual discretion at every stage. At BlueCove, this is replaced by a firm-level investment process in which human discretion is principally focused on process design and improvement.

When BlueCove’s capabilities are coupled with its scientific investment process, the firm is able to create innovative and powerful active investment solutions. We believe it is this combination, combined with the added potential benefits of the ETF structure, that makes SIFI and SIHY such compelling investment offerings.

How can the ETFs benefit investors and advisors in the current environment?
A significant part of our impetus to bring these products to market was their potential to outperform in different fixed income market environments. Scientific investing is characterized by higher instrument liquidity, broad portfolio diversification and a transparent portfolio construction framework that takes into account transaction costs, risk and liquidity considerations.

Investors may benefit from a firm-level investment process in which human discretion is steered away from areas in which is it is historically weak, such as subjective forecasting, and toward those in which it is stronger, such as objective analysis and process design.

In the current environment, many income-seeking investors are looking to diversify their exposures through differentiated strategies.

BlueCove’s proprietary investment process is designed to deliver multiple potential outcome benefits to a portfolio like enhanced alpha, increased diversification, reduced risk potential, plus income generation. Because of this, both SIFI and SIHY may be impactful solutions to many investors in the current environment.

What can investors expect from the ETFs over the long term?
The long-term goal for both ETFs is to deliver strong investment performance. Through these products, we seek to offer investors a differentiated return stream in comparison to traditionally managed active or index strategies. We aim for the ETFs to achieve low correlations to the active returns of traditionally managed portfolios and higher returns than index strategies, while being a steady source of income for investors.

Steve Cook is Managing Director, Head of ETFs at Harbor Capital Advisors, Inc.

About Harbor
Harbor offers a diverse family of cost-aware investment solutions managed by institutional-caliber firms. We source talented investment teams to manage portfolios and apply a rigorous fiduciary oversight program to monitor their performance and investment decisions. Harbor had combined assets under management of approximately $66 billion as of August 31, 2021. For more information, visit harborcapital.com.

BEFORE INVESTING, YOU SHOULD CAREFULLY CONSIDER A FUND’S INVESTMENT OBJECTIVES, RISKS, CHARGES AND EXPENSES. THIS AND OTHER INFORMATION IS IN THE PROSPECTUS. PLEASE READ THE PROSPECTUS CAREFULLY BEFORE YOU INVEST. FOR PROSPECTUS OR SUMMARY PROSPECTUS WITH THIS AND OTHER INFORMATION ABOUT THE FUND, PLEASE VISIT OUR WEBSITE AT WWW.HARBORCAPITAL.COM.

All investments involve risk including the possible loss of principal. Fixed income securities fluctuate in price in response to various factors, including changes in interest rates, changes in market conditions and issuer-specific events, and the value of your investment in the Fund may go down. There is a greater risk that the Funds will lose money because they invest in below-investment-grade fixed income securities and unrated securities of similar credit quality (commonly referred to as “high-yield securities” or “junk bonds”). These securities are considered speculative because they have a higher risk of issuer default, are subject to greater price volatility and may be illiquid. Because the Funds may invest in securities of foreign issuers, an investment in the Funds is subject to special risks in addition to those of U.S. securities. These risks include heightened political and economic risks, greater volatility, currency fluctuations, higher transaction costs, delayed settlement, possible foreign controls on investment, possible sanctions by government bodies of other countries and less stringent investor protection and disclosure standards of foreign markets.
Unlike mutual funds, ETFs may trade at a premium or discount to their net asset value. The ETFs are new and have limited operating history to judge.

The ICE BofA US High Yield Index is an unmanaged index that tracks the performance of below-investment-grade U.S. dollar-denominated corporate bonds publicly issued in the U.S. domestic market. All bonds are U.S. dollar denominated and rated Split BBB and below. This unmanaged index does not reflect fees and expenses and is not available for direct investment.

Foreside Fund Services, LLC is the Distributor of the Harbor Scientific Alpha High-Yield ETF and the Harbor Scientific Alpha Income ETF.

BlueCove Limited is a third-party subadviser to the Harbor Scientific Alpha Income ETF and the Harbor Scientific Alpha High-Yield ETF.

Harbor Funds Distributors, Inc.