Jane manages the CF Miton Special Situations Portfolio, CF Miton Strategic Portfolio and CF Miton Total Return funds, having taken over from Gray and Sullivan in June 2014. The portfolios were restructured to reflect Jane’s more “pragmatic” view on the market.
The latest fact sheet for the £420.9m CF Miton Special Situations Portfolio, dated 31 December 2014, shows it had 13.1 per cent in UK government bonds and 9.2 per cent in foreign government debt, with another 2 per cent in corporate bonds. Some 2.6 per cent was in cash.
However, the manager has taken an axe to these bond positions as well as equities that are correlated to the fixed income market – the so-called bond proxies such as utilities. Total fixed income exposure in Miton Special Sits has moved down from about 25 per cent to 19 per cent.
He’s also made changes to the funds’ duration, selling the long dated bonds in the UK and introducing two short-dated index linkers.
“Our process looks for inconsistencies between what the facts are telling us, the data, and what the market is saying, the narrative,” Jane said. “Given the huge shift in bonds over the past months, it therefore pays to review the positioning through this lens.”
The rationale for this move comes from his view that the bond market appears to be too pessimistic in its economic outlook. The yield on 10-year gilts recently dipped below 1.4 per cent, which suggests the market is discounting nominal UK economic growth of 1.4 per cent over 10 years.
Performance of index over 3yrs
Source: FE Analytics
However, as the manager points out, this move in bond yields has happened while economic data looks relatively rosy. For example, real UK GDP growth was 2.7 per cent year-on-year in the fourth quarter of 2014 while inflation as measured by the retail prices index stands at 1.6 per cent.
Jane agrees with the broad few that economic growth and inflation in the UK is likely to slow in the future but thinks the level being discounted by the bond market seems “extreme”.
“Clearly we have entered the territory of the greater fool argument. It seems extremely farfetched to believe that investors would prefer the safety of government bonds when they offer the upside of a loss and the downside of a greater loss. That certainly doesn’t feel safe in our eyes,” Jane said.
“We have heard arguments that it’s a positive real return or that yields could fall even lower given falling inflation expectations, but none of these really stack up when considering the potential return is negative to a long-term holder.”
“Another worrying factor is the increase in the volatility of bonds. At current levels these supposedly low risk assets are now as volatile as equities. While their correlation with equities remains negative, for an absolute investor, risk has increased markedly while expected returns are at extreme lows.”
“The manager has been using the past few weeks to lock in recent gains in bonds and bond-proxy stocks. The proceeds have been channelled into cash 'pending attractive reinvestment opportunities'.”
He added: “While it is difficult to call the top of any market, and we don’t generally attempt to do so, we are concerned that such extreme valuations could be quite a destabilising factor.”
Since Jane took over the CF Miton Strategic Portfolio last year it has outperformed its average peer in the IA Flexible Investment sector with a return of 6.41 per cent, as the graph below shows. It has no benchmark but as a point of comparison, it’s also beaten the FTSE All Share.
Performance of fund vs sector and index over manager tenure
Source: FE Analytics
Warnings over valuations in the bond market are becoming increasingly common. Recently, a number of multi-managers told FE Trustnet that running a cautious multi-asset portfolio is getting more and more difficult as the bond market, especially when it comes to government debt, are looking stretched and prone to a correction to some point in the future.
Schroders’ Marcus Brookes, Rathbones’ David Coombs and Brooks Macdonald's Jonathan Webster-Smith all agreed that it is difficult to find compelling opportunities in the bond market and said they were making use of alternative investment strategies or higher cash levels to offset this in their portfolios.
We recently reviewed the two largest multi-asset sectors to find out which funds were avoiding bonds and making greater use of cash and alternatives. Funds thrown by this research include Brookes’ Schroder MM Diversity, FE Alpha Manager Stewart Cowley's Old Mutual Managed and Premier Multi-Asset Conservative Growth, managed by David Hambidge, Ian Rees, David Thornton and Simon Evan-Cook.
Jane’s move will no doubt attract comparisons with Gray and Sullivan, who had a very bearish positioning in the Miton multi-asset range prior to their departure. CF Miton Special Situations has 21.4 per cent in cash, with just 6.3 per cent in UK bonds and 8.6 per cent in global bonds.
Earlier this month, FE Trustnet revealed the funds that Gray and Sullivan are building their new Coram Global Balanced portfolio around. For bonds, they are using Jim Leaviss’ M&G Global Macro Bond fund, which has a fully flexible mandate.
They have taken positions in some areas of value – including certain UK stocks, Japanese equities and a mining fund – but are also holding onto a chunk of cash to put to work when opportunities become more attractive.
A lot of goal posts have been moved and we continue to expect this uncertainty to throw up some enticing opportunities to further develop our portfolio,” Sullivan told us.
“In particular, once the noise of QE passes, we expect to see markets fall back towards a more sustainable PE multiple rating as the reality of QE underwhelms. This, we hope and expect, will present much more appetising opportunities for all of us to enjoy. In this situation, the optionality of cash is priceless.”