Strategic bond funds need to make better use of the tools and strategies available to them in order to improve the potential returns for their investors, according to Wellian Investment Solutions chief investment officer Richard Philbin.
Wellian believes that funds in the IA Sterling Strategic Bond sector have the potential to “significantly” outperform their benchmarks, thanks to their largely unconstrained remit and a very large investment universe.
However, it says that members of the peer group often fail to do this – which it blames in part on managers’ reluctance to employ the full range of different investment instruments available to them.
Performance of sector vs index over 10yrs
Source: FE Analytics
“It doesn’t make sense for these funds to continuously fall short of reaching their full potential, especially given that managers of strategic bonds have such a wide variety of tools available to them, such as the ability to actively manage the duration curve, the yield curve and the credit spectrum as well as to employ cash bonds and derivatives,” Philbin said.
“Strategic bonds can be concentrated or broadly diverse in terms of numbers of issues or issuers. They are not necessarily expected to deliver a high or sustainable yield for instance and yet the difference between the best, average and worst funds over a 10-year time horizon is relatively narrow. During this time the opportunity set to deliver excess performance or underperformance would have been very large and yet it feels like they are not maximising the opportunity set.”
However, the chief investment officer says that there are some examples of funds in the popular sector that are putting their available tools to good use. In the following article, we take a closer look at three of them.
TwentyFour Dynamic Bond
First up is this £1.5bn fund, which has struggled over 2016 so far (having fallen into the fourth quartile) but is one of the sector’s best performers over the long run. Its 45.45 per cent total return over five years is 10 percentage points higher than its average peer’s and puts it in the top quartile.
Performance of fund vs sector over 5yrs
Source: FE Analytics
The fund is managed with a focus on income – and investment of £10,000 made five years ago would have generated total payouts of £2,706 – and has an absolute return mentality.
“With the ability to use traditional bonds as well as derivatives and also employ shorting techniques, this fund has plenty of flexibility to manage through duration, curve, currency, asset backed or government instruments. The yield is quite attractive and quarterly payments should smooth out the ‘lumpiness’ of income stream,” Philbin said.
“At present the largest exposure is to BB-rated bonds, but the two largest holdings are government securities. Approximately one-quarter of the portfolio is short through the use of CDS. Although there is a named manager on the fund – Gary Kirk - TwentyFour adopt a very team driven approach and this can assist in providing broad ideas to the construction of the portfolio.”
TwentyFour Dynamic Bond has a clean ongoing charges figure (OCF) of 0.80 per cent and is yielding 4.75 per cent.
This £392.4m fund has been managed by Jon Mawby since 2012 with Andy Li – who Mawby had worked with previously – joining him as co-manager in April 2014. Under Mawby, Man GLG Strategic Bond has made a 16.09 per cent total return, placing it in the IA Sterling Strategic Bond sector’s third quartile.
Performance of fund vs sector under Mawby
Source: FE Analytics
Philbin said: “With a broad investment universe including currency and money market instruments through government and corporate debt as well as derivatives, the fund has delivered impressive longer-term results, although shorter term the fund has suffered a little.”
“Presently about 150 per cent long and 70 per cent short, the fund invests globally with exposure to Latin America and Africa for instance. With quarterly income distributions and a yield target, the fund is flexible but with certain constraints.”
Over the past five years, an initial investment of £10,000 has led to a total income stream of £1,562. Mawby currently has most of the portfolio’s assets positioned towards the higher end of the liquidity spectrum and is “broadly cautious” on more illiquid parts of the market such as high yield.
Man GLG Strategic Bond has a 0.80 per cent OCF and yields 3.06 per cent.
This fund has the shortest track record of those examined here, having launched in May 2014. Since then, it has made a 9.03 per cent total return and slightly underperformed its average peer.
Performance of fund vs sector since launch
Source: FE Analytics
“Although pretty much constrained to the credit markets as opposed to the government issues, the Hermes Multi Strategy Credit fund has plenty of flexibility and Fraser Lundie, the lead manager, and the fixed income team at Hermes will actively employ the use of CDS and futures to temper risk, maximise upside and diversify the portfolio,” Philbin said.
“This is a globally diverse fund that invests also in convertibles and loans as well as traditional bonds. The fund is managed in a very interesting way, using DTS (Duration Times Spread) as one of the key metrics behind sourcing value in the bonds owned. The portfolio at roughly £625m is both small enough to be nimble and large enough to keep ongoing costs low.”
The fund’s largest positions on a market weight basis are Volkswagen, Tesco, Airbus, Telefonica and Anglo American. However, when the Duration Times Spread basis is used, its largest exposures are to Kinder Morgan, Valeant, Cemex, MPLX and Gerdau.
Hermes Multi Strategy Credit has a 0.79 per cent OCF.
