The five-crown rated fund has overtaken Standard Life Global Absolute Return Strategies, or GARS, as the largest UK-domiciled portfolio in the IMA universe, growing a considerable £5bn since the start of the year, according to FE data.
It means that Woolnough now runs 70 per cent of all the assets in the IMA Sterling Strategic Bond sector through this fund.
Though Woolnough, who launched M&G Optimal Income in December 2006, admits that his ability to add value on a stock-by-stock basis has decreased as the fund has grown, he says he is coping with inflows and therefore investors can expect the fund to remain open for some time to come.
“In every conference call I have been on since the fund was half, or even a third, of its current size, I have been asked a question about size; and rightly so,” Woolnough (pictured) said.
“The answers remain the same. We do various things, like increasing our resources. For instance, the fund is now looking more and more at the US and we can do that because of the individuals we have hired to look more and more at the US. The same goes for emerging markets.”“Of course, those are the things that make my life easier and help the fund perform better, but the thing that makes it more difficult is that it becomes harder and harder to add value at a stock-selection level.”
He added: “That’s something we have said throughout the time of this fund.”
Although some investors may see this as a cause for concern, Woolnough is quick to point out that his approach is based much more on top-down calls than bottom-up analysis.
“Fortunately, this fund is more about macroeconomics than specific stock selection,” the FE Alpha Manager explained.
“We still try to add value by stock selection, but obviously it’s never going to be the main driver of returns. When you are running a really, really flexible mandate like this, you can still put levers in the portfolio.”
“We are running a fund where the equivalent of its benchmark would be 50 per cent in Europe and we are short European duration; so we are still expressing our views in the portfolio.”
Woolnough’s track record on the fund has certainly justified his popularity among investors.
According to FE Analytics, M&G Optimal Income has been the best performing portfolio in the IMA Sterling Strategic Bond sector since its launch with returns of 88.46 per cent, more than doubling the sector average in the process.
The objective of the fund is to outperform all of the various IMA bond sectors, something it has so far achieved.
Performance of fund vs sectors since Dec 2006
Source: FE Analytics
M&G Optimal Income has also outperformed the sector in every calendar year since its launch, except for 2012 when its 12.9 per cent returns were 0.4 percentage points short of the average.
While the fund has beaten the sector over one, three and five years, its outperformance hasn’t been as great over those periods.
It is also down against the sector so far in 2014; however Woolnough says that has been down to positioning.
Performance of fund vs sector in 2014
Source: FE Analytics
Richard Scott, manager of the PFS Hawksmoor Distribution and Vanbrugh funds, listened in to the same web-call and while he rates Woolnough and his team very highly, he questions whether M&G’s strategy of increasing resources is sustainable.
“It’s a tricky one. I don’t want to sound like I am knocking M&G and Richard Woolnough because I have a lot of respect for them,” Scott said.
“However, my take on what he said is that he is going to struggle to keep the fund’s performance at the level it has been in the past. He said it was very hard to add value at a stock-selection level and he has got to concentrate on macro.”
Fund size has been a massive talking point in the industry recently, especially in the bond sectors.
The principal concern is that larger funds will struggle to cope in a liquidity-fuelled sell-off as managers won’t be able to move quickly enough to offload their assets, while smaller funds have the ability to be more nimble.
Data from the RBS global liquidity monitor shows that liquidity in bond markets, which it defines as a combination of market depth, trading volumes and transaction costs, has fallen by 70 per cent since the financial crisis.
Despite that, a recent FE Trustnet article showed fund size has had no material impact on performance during periods in the past when liquidity has dried up and Woolnough says too much has been made of current illiquidity in the market.
“Liquidity has always gone up and it has always gone down; it always varies,” he said.
“The three things people want from an investment are instant liquidity, the price not to go down and great total returns. Lo and behold, what you want and what you get aren’t the same; you have to compromise on liquidity and volatility to get an extra return.”
The major caveat to looking at illiquidity in the past, according to proponents of smaller funds, is that events over the next few years is likely to be unprecedented as the world gets used to higher interest rates and the end of QE.
Nevertheless, Woolnough says there are also just too many managers and investors making ill-informed assessments about the current market.
“Just simply saying you cannot buy bonds now because they aren’t as liquid as they were in 2007 is a very, very strange thing to say.”
“The market was perfectly liquid in April 2007 and that was the worst time you could have bought corporate credit. We had very little in corporate bonds because you weren’t getting paid for taking liquidity risk.”
Performance of sectors since Mar 2009
Source: FE Analytics
“The worst time to have ever bought bonds would have presumably been spring 2009 when the market was perfectly illiquid. Well, that was the time to buy bonds because that’s when you were being paid for taking liquidity risk.”
M&G Optimal Income yields 2.93 per cent and has an ongoing charges figure (OCF) of 0.91 per cent.
