It is time to rise from the trenches and take on more risk, says Chris Bowie of TwentyFour Asset Management.
He invested a quarter of his corporate bond fund into a mixture of government bonds and supranational bonds and, while still wary, he says valuation opportunities are now too good to miss.
‘We have seen spreads widen and it has given us fantastic opportunities to add risk to the portfolio,’ Bowie (pictured) said. ‘We have taken this 25% defensive weighting down to 10%. We have seen a lot of good opportunities to buy positions in banks and other companies we think are sound. We have increased credit risk but remain nervous on interest rate risk.’
He is seeking opportunities to add to his holdings in the US, where several corporates have suffered from downgrades but spreads have widened. He believes a strong consumer picture has sweetened the deal.
At the same time, staying away from energy-linked names due to the low oil price, he is monitoring several telecom and media companies.
The downgrades in the US have been caused by companies leveraging themselves to support dividend programmes. One of the most notable instances is McDonald’s. Formerly A-rated, it recently issued $10 billion of debt to finance a $30 billion dividend programme and is now BBB-rated.
‘We have seen late cycle behaviour in the US where companies have issued debt to finance M&A or a share buyback programme. We think that is ahead of the cycle,’ said Bowie.
‘There are a lot of companies in the US that have been downgraded for similar things. Around the turn of the year, yields and spreads started becoming more attractive. So we have very gently started allocating money to the US.’
On a macro level, he has confidence in the US market and says the economy is strong enough to warrant two rate rises this year. However, on the other side of the Atlantic, he is more guarded due to the UK’s forthcoming EU referendum.
‘It is a very difficult thing for a fund manager to deal with. At the turn of the year, we thought the risk of a Brexit was around a third but now it feels to us more like 40%.
‘Interestingly, sterling has weakened but gilts have done well. We recognise there could be more gilt market volatility as we saw with the Scottish referendum and the impact that polls had in the run up to that.’
As a result, UK corporate bond issuance has declined, however Bowie says there is more debt being issued in euros because of the supportive European Central Bank. He is watching sterling closely as he expects it to continue to suffer from volatility, especially if there is a Brexit.
‘If we have a Brexit, one school of thought is the UK runs a significant current account deficit and budget deficit,’ he said. ‘Therefore the pound is likely to weaken more and if anything, the yield curve may steepen and we may see inflationary consequences.
‘To my mind, with gilts already close to record lows, I think there’s a greater risk of them losing money.’
Is the IA Corporate Bond sector a level playing field?
Bowie says he is content to play by the Investment Association’s rules but questions the inclusion of unrated debt.
‘It is a pretty level playing field. The IA Corporate Bond sector is luckily an apples-to-apples comparison for the most part,’ said Bowie, who has a slight issue with the inclusion of unrated bonds in this sector.
He does not buy private placement bonds because they are unrated. They cannot be held in most life and pension funds and their universe of buyers is lower (and already restricted due to its nature).
As unrated debt does not sit in investment grade indices, Bowie says it is therefore harder to ascertain their true price.
He argues their presence creates a discrepancy in a sector where all the funds are investing in the same things, with one exception.
‘I think unrated bonds are fantastic investments but I would prefer to own them in close ended funds,’ said Bowie.
‘Many funds in the sector will hold them and I think the sector is a level playing field other than this issue,’ he added.