Steven Logan, Co-Manager of the Marlborough High Yield Fixed Interest Fund, explains why he believes the macroeconomic backdrop is ideal for bonds and how in-depth research helps his team to manage risk and maintain an attractive income for investors.
What are you seeking to achieve with the fund?
“This is an income-focused high yield bond fund with a large and experienced investment team who conduct in-depth credit research to ensure we have a comprehensive understanding of the risk/reward profile for each company we consider holding in the portfolio.
“My co-manager Ben Pakenham and I work with a five-strong team of dedicated high yield analysts and an on-desk lawyer. The size of the team, and the intensive company research this allows, means that, where appropriate, we are willing to invest a little higher up the risk ladder in order to maintain an attractive income distribution, which is a priority for the fund.
“Around 80% of the focus for the portfolio is bottom-up company selection with 20% focused on particular themes. The fund is unleveraged, long-only and hedged back to sterling. We use the IA Sterling High Yield Sector as a benchmark, though this has little influence on our investment decisions.”
How is the macroeconomic backdrop affecting credit markets?
“The present level of growth in Europe is ideal for credit; neither too strong nor too weak. Policy remains supportive and this is likely to continue, given persistent weak core inflation. Monetary policy has, without doubt, extended the credit cycle. Lower interest rates and credit spreads have improved both the profitability and cash flow of high yield companies.
“Access to funding for almost all companies is easy and the cost of debt is low. These two factors suggest that locking in this lower cost of capital will serve to keep the default rate low for several years to come.”
How is the portfolio positioned?
“Since we take the view that default rates are set to stay low for several years, we’ve been prepared to move a little higher up the risk/reward scale in search of attractive income opportunities.
“We believe the market is over-compensating for default risk, so around 40% of the portfolio is in B-rated companies, which pay an elevated yield compared with the slightly higher-grade BB-rated companies. The latter account for just under 30% of the fund.
“While the fact that we have a higher exposure to B-rated bonds might suggest a greater degree of credit risk, this is further mitigated by the fact that many of these holdings are concentrated in bonds due to be repaid within 12-18 months.
“Assessing a company’s likely fortunes over 12-18 months is more straightforward than doing so on, for example, a bond with five to seven years to maturity, where you’re weighing up the prospects for a company over a much longer timeframe.
“In our eyes rising bond yields are currently more of a concern than defaults. Central bankers have begun taking the first steps to normalising monetary policy and as they gradually increase interest rates that will mean bond yields will tick upwards.
“If bond yields edge up, bond prices will move in the opposite direction. For that reason the portfolio is positioned to have a shorter duration – or sensitivity to interest rate changes – than is the average for high yield, which is in itself a short duration asset class within fixed interest.
“This is another attraction of B-rated bonds, which tend to have a lower sensitivity to interest rate changes, and particularly those with 12-18 months to maturity, again reducing that sensitivity to interest rates.
“Shorter-dated bonds also tend to exhibit lower price volatility and they’re bought and sold on tighter bid/offer spreads, which makes them easier to trade. That provides liquidity benefits for the fund.”
How would you summarise your investment approach?
“Overall, our investment approach is that when we buy a bond it’s with the intention of holding it to maturity. Fund turnover is kept low, as is our cash position, given that the desire is to capture as much income as possible for our investors. Maintaining that attractive income distribution for our investors is a priority and at the very heart of our strategy.”
Regulatory Information and Risk Warning
The past is not necessarily a guide to future performance. The value of investments and the income from them may fall as well as rise and you may not get back the amount you originally invested. Investments in fixed interest securities are subject to market and credit risk and will be impacted by interest rates. Investments in higher yielding bonds issued by borrowers with lower credit ratings may result in a higher risk of default and have a negative impact on income and capital value. The Fund may use derivatives to protect the value of the Fund’s assets or to reduce the costs of investing, although this may not be achieved. It is not anticipated that the use of derivatives will have any significant effect on the risk profile of the Fund. To ensure that the principal objective of providing a high level of income can be met, 50% of the annual Manager’s charge is deducted from capital rather than income. Future capital growth may be constrained as a result. You are required to read the Key Investor Information Document (KIID) before making an investment. The KIID and prospectus for all funds are available free of charge at www.marlboroughfunds.com or by calling 0808 145 2500. This document is provided for information purposes only and should not be interpreted as investment advice. The information contained herein has been prepared from sources believed reliable but is not guaranteed and is not a complete summary or statement of all available data, nor is it considered an offer to buy or sell any securities referred to herein. Opinions expressed are subject to change without notice and do not take into account the particular investment objectives, financial situations or need of individual investors. Please note that for your protection telephone calls may be recorded.Download PDF