The fixed interest market has been in a bull market for around three decades, with most areas delivering very strong risk-adjusted returns over the majority of time periods – particularly over the last decade or so.
For example, the FTSE British Government All Stocks index – which measures the performance of the UK government debt market – has returned 108.2 per cent since the beginning of 2000, with an annualised volatility of just 5.53 per cent over the period. This puts it well ahead of the UK equity index, which has returned just 67.16 per cent, with a far higher level of volatility [17.97 per cent].
Performance of indices since Jan 2000
Source: FE Analytics
No bull run lasts forever, of course, and most commentators believe that the strong run is coming to an end.
The stellar performance of bonds – aided in recent years by low interest rates and central banks’ huge quantitative easing programmes – has driven yields to all-time lows. With economic recovery in full swing and most governments ready to toughen up monetary and fiscal policy, rising yields will make it increasingly difficult for bond managers to deliver the kind of capital growth that has seen them do so well in recent years.
This trend has already started, with many bond funds in negative territory year-to-date. Managers invested in long-duration debt have had a particularly tough time.
This does not mean that bonds should be avoided altogether. Yields will not go up in a straight line and some areas of the market will rise quicker than others, offering investors the opportunity to eke out returns. Moreover, as Invesco Perpetual’s Paul Causer pointed out in a recent FE Trustnet interview, bonds still have important diversification benefits, not least because they offer a guaranteed level of income, unlike equities.
With this in mind, FE Trustnet looks at three bond funds that score highly across FE’s various ratings.
M&G Global Macro Bond
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FE Crowns: 5
- FE Alpha Manager: No
- FE AFI: Cautious, Balanced, Aggressive
- FE Group Awards: Outstanding (for both UK and international fixed interest)
Multi-billion pound portfolios such as M&G Optimal Income and M&G Corporate Bond tend to take the headlines, but the firm has a number of lesser-known vehicles that pack a real punch, including Jim Leaviss’ five crown-rated M&G Global Macro Bond fund.
The fund is one of the least constrained of all of M&G’s offerings, with Leaviss and deputy manager Mike Riddell able to invest in both government and corporate debt across developed and emerging markets.
It is also unconstrained in terms of currency and duration, which is attractive for those worried about rising interest rates.
As the fund’s name suggests, this portfolio is predominantly run in a top-down manner, which comes from Leaviss’ assessment of the global economic environment and outlook. The manager, who is also an economist, takes a view on risk appetite, which determines his attitude towards which countries and currencies he should invest in, and the sensitivity to interest rate changes he desires. He then relies on M&G’s credit research teams to select the securities that best fit his strategy.
The fund was formerly a fund of funds, but this was changed in 2007 to better complement Leaviss’ style.
The new strategy has worked very well for the fund: our data shows it has beaten its IMA Global Bonds sector average over one, three and five years, albeit with slightly more volatility. The fund does not have a benchmark.
Performance of fund and sector over 5yrs
| 1yr returns (%) |
3yr returns (%) | 5yr returns (%) | |
|---|---|---|---|
| IMA Global Bonds | 0.14 | 7.08 | 45.60 |
| M&G Global Macro Bond | 3.04 | 12.15 | 51.03 |
Source: FE Analytics
Leaviss has coped relatively well with the turbulence in bond markets so far this year, with gains of 1.73 per cent since the beginning of 2013. This compares against a slight loss for the sector average. The manager can draw on short positions in both the government and corporate bond market, which enables him to make money even if fixed income prices do fall.
One factor that is likely to put off some investors is the fund’s current low yield, at just 1.36 per cent. Yields have fallen significantly across most bond funds in recent years, but this figure is well below average for the sector. The manager is currently negative on emerging markets, with the bulk of his assets in the developed world. He is particularly positive about the US, and also has a significant overweight in the Middle East.
"This region is backed by a stronger fiscal situation and is relatively ignored by the market, meaning it offers many opportunities," said the FE Research team, which includes M&G Global Macro Bond in the FE Select 100.
The fund is currently invested predominantly in investment grade debt, though Leaviss can delve into lower quality bonds when he sees compelling value.
Leaviss (pictured) has run the fund since its launch in late 1999. He is not currently an FE Alpha Manager, owing to the weaker relative performance of some of his other portfolios.
At £1.2bn, the fund is hardly a minnow, but it is much smaller and therefore more flexible than the £15.7bn M&G Optimal Income fund, for example.
M&G Global Macro Bond requires a minimum investment of £500 and has ongoing charges of 1.41 per cent. It is highly rated by the FE AFI panel of leading experts, and appears in all three recommended portfolios.
Fidelity Moneybuilder Income
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FE Crowns: 3
- FE Alpha Manager: Yes
- FE AFI: Cautious
- FE Groups Awards: Outstanding (UK fixed interest)
The £3.2bn fund sits in the IMA Sterling Corporate Bond sector, meaning that it invests predominantly in company debt rather than the government variety. It can hold up to 10 per cent in the latter for diversification purposes, but it should be viewed as a corporate debt fund. No less than 80 per cent of the fund’s assets must be invested in sterling-denominated bonds or those that are hedged back into sterling.
Spreadbury targets an above-average yield compared with the market and the fund's peers, with some capital growth as well. He does this by investing predominantly in investment grade debt and particularly in companies that are less economically sensitive, as these are seen as more likely to repay their debt regardless of broader economic conditions.
The fund’s yield of 3.72 per cent is above average. It pays out dividends once every month, making it an attractive proposition for those in retirement looking to live off a regular income.
It also has a strong total return record: our data shows the fund has made 193.53 per cent since launch in 1995, compared with 150.17 per cent from the IMA Sterling Corporate Bond sector average. The fund is also ahead over five, 10 and 15 years.
Performance of fund vs sector since launch
Source: FE Analytics
Its shorter term record is also strong, though it has fallen slightly short of its benchmark over one year, and is broadly in line over a three-year period. This is in part why the fund only has three FE Crowns.
Utilities are currently the manager’s biggest sector position, followed by asset/mortgage backed securities and consumer products. Spreadbury is fully invested, with next to nothing in cash.
The analysts on the FE Research team believe Spreadbury is one of the best bond managers out there, and awarded Fidelity the only other "Outstanding" rating in the FE Group Awards for UK fixed interest.
They are also big fans of the Moneybuilder Income fund, including it in the FE Select 100. They do not see it as the most exciting of bond funds, but view its reliability as a major asset to certain types of investors.
"The fund’s income level and total shareholder return are broadly in line with that of the Sterling Corporate Bond sector; however, its major strength is its reliability, as it tends to behave exactly as expected by the team," they said.
"Spreadbury says that he looks for stable returns, an attractive level of income and low price volatility, and that is exactly what he has delivered."
"This fund would be an ideal complement to an equity-heavy portfolio, lowering risk for a similar level of return."
Fidelity Moneybuilder Income requires a minimum investment of £500 and has ongoing charges of only 1 per cent, making it one of the cheapest options of its kind. It is included in the FE AFI Cautious portfolio.
Jupiter Strategic Bond
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FE Crowns: 5
- FE Alpha Manager: Yes
- FE AFI: Cautious, Balanced, Aggressive
- FE Groups Awards: Not rated
The fund is the raciest of the three vehicles mentioned here. Although the manager’s strong performance has led to big inflows of late, it is still flexible enough for Bezalel to use his stockpicking skills to add real value. He is also more prepared to invest in low-grade debt than Leaviss and Spreadbury: our data shows he currently has 26.5 per cent invested in B-rated debt, and around 15 per cent in bonds classed as either CCC or unrated.
Major holdings include three separate Australian government bond securities and a hefty position in Punch Taverns, which expires in 2022. These more esoteric positions have enabled Bezalel to maintain a decent level of yield, which is currently at 5.2 per cent.
The fund’s total return record is also very strong. According to FE Analytics, it is a top-quartile performer in the IMA Strategic Bond sector over three and five years and since its launch in June 2008. It has tended to be more volatile, however.
Performance of fund and sector since launch
Source: FE Analytics
The FE Research team likes Bezalel’s "out-of-the-box" style and includes it in the FE Select 100.
"He has taken full advantage of his unconstrained mandate. By varying the portfolio’s allocation to government bonds or high- or low-rated corporate bonds according to his assessment of the economy, he has generated outstanding performance since the fund’s inception," the team said.
"He benefits from the support of three analysts who are able to identify cheap bonds in the areas he wants to invest in."
"Bezalel has a great deal of experience investing in bond markets and his absolute-return mindset gives him an edge over many of his competitors in his sector."
"The fund is a good choice for an investor with no strong feelings about bonds and who wishes to outsource responsibility for this asset class entirely," the team added.
Bezalel is Jupiter’s standout bond manager, and the group itself was not rated as either "Outstanding" or "Highly Commended" in the latest rebalancing of the FE Group Awards. However, Jupiter Strategic Bond gets full marks across all of FE’s other performance measures.
The fund requires a minimum investment of £500 and has ongoing charges of 1.5 per cent.
To find top-rated funds of your own, click here.
