While retail investors’ options in fixed income have grown in recent years, the space continues to evolve. The rise of strategic bond, multi-asset and absolute return funds, alongside traditional investment-grade and high-yield strategies, suggests a certain maturity in the asset class, but for Fraser Lundie, co-head of credit at Hermes Investment Management, most bond investors must rethink their approach.
Lundie manages three funds: the £191m Global High Yield Bond, £527m Multi Strategy Credit and the recently launched £36m Absolute Return Credit strategy.
Alongside co-head of credit Mitch Reznick and an 11-strong team, Lundie believes investors need to do more to embrace globalisation and, as liquidity becomes more challenged, open doors to more flexible mandates incorporating synthetics, loans, subordinated and hybrid debt.
Rethinking high yield
The managers’ mantra is to put more attention on security selection, not just company selection. “Our philosophy is that we believe people have approached high yield in an over-simplistic way historically, primarily in an effort to sell it,” says Lundie.
“If you can make it sound like an equity, then people get more comfortable with it. There has always been too much of an emphasis on the company – an attitude of get that right and you’ll be OK – but the reality of the asset class is many of the risk/return factors are nothing to do with the company, they are to do with things such as duration, convexity, liquidity and volatility.”
He adds: “It’s about choosing between dollar/euro/sterling bonds or loans/bonds/CDS, or choosing between the long-end, the short-end or the belly of the curve. These are things that are as important as the company selection in order to get an appropriate risk-adjusted total return. The problem is that it flies in the face of the way that high yield has been structured.”
Lundie stresses we are only at the beginning of genuinely global debt capital markets, with companies increasingly issuing bonds in two or three currencies – it makes no sense to look at investment in “geographical silo”.
Despite this, on a broad regional level the Global High Yield Bond Fund has altered significantly from two years ago when it was heavily skewed towards Europe, as well as subordinated financials. Today, the focus is more on the US, emerging markets and basic industries.
“Coming into this year, there was a consensus position to be long financials and short corporates, and long Europe and short the US,” he says.
“In a market that is as illiquid as credit is these days, if you are going to get things wrong you would rather that be where no one else is, rather than where everybody else is.”
For example, while a strong dollar is often perceived as a headwind for emerging markets, there are actually plenty of companies that stand out as beneficiaries in spite of the broad negative sentiment. Lundie picks out Marfrig, the world’s largest beef exporter.
“Marfrig is behaving in a very defensive way because is doesn’t have clarity over its future in terms of access to primary markets and so recently sold the European business Moy Park.”