GAM Star Credit Opportunities, PFS TwentyFour Dynamic Bond and Royal London Sterling Extra Yield Bond are among the bond funds that have managed to beat the return of the FTSE All Share in the two years since the markets started to fret about the withdrawal of ultra-loose monetary policy.
Then Federal Reserve chairman Ben Bernanke sparked turmoil in both bond and equity markets on 21 May 2013 when he first raised the prospect of the central bank starting to taper its massive quantitative easing (QE) programme.
As the graph below shows, Bernanke’s warning that the Fed have to gradually scale back and eventually end its $85bn a month bond-buying programme prompted a sell-off in bonds and stocks over the following month. Falls were also seen when Bernanke started to offer more details of how tapering would take place.
Performance of indices between 21 May and 21 Jun 2013
Source: FE Analytics
While the monetary policy environment is still very supportive compared to history, central banks in the US and the UK are being closely watched for when they will make their first interest rate increases since the financial crisis. Some investors are concerned that this will cause further turmoil when it happens.
In the weeks before the ‘taper tantrum’ of 2013, Bill Gross – the bond veteran who was then at Pimco – called the top of the market and said the 30-year fixed income bull market was over, after the 10-year treasury yield hit 1.67 per cent. However, while it is now at 2.17 per cent, many have argued that Gross has become too pessimistic on his asset class.
Meanwhile, JPM Income Opportunity fund manager Bill Eigen told FE Trustnet last year that he is expecting “devastation” in the bond market when the Fed eventually lifts interest rates. He has prepped his portfolio to match his fears that the correction will be worse than the brutal sell-off that hit equities and bonds in 1994.
In the two years since the taper tantrum started, the Fed has brought its QE programme to an end but neither the Bank of England nor the Fed have made their first rate move. What’s more, the European Central Bank (ECB) and the Bank of Japan have picked up the reins and boosted their own monetary easing efforts.
Since 21 May 2013, the FTSE All Share has posted a 13.72 per cent total return and, as you can see below, outperformed the average return of the five Investment Association bond sectors.
Performance of sectors and index since 21 May 2013
Source: FE Analytics
However, within these sectors 11 funds have managed to outperform UK equities and in the following article we take a closer look at them.
As would be expected given their flexible nature, strategic bond funds have been the most successful in making strong returns in the years since the tantrum and seven of the 11 to beat the All Share live in the IA Sterling Strategic Bond sector.
FE Alpha Manager Anthony Smouha’s £184.6m GAM Star Credit Opportunities fund leads the pack with a 23.75 per cent total return. Since launch in July 2011, it’s also been the top performing fund in the sector with a 55.68 per cent gain.
Smouha focus on sterling bonds issued by higher quality companies but chooses higher yielding securities lower down in priority should the company become insolvent. The rationale for this is that higher quality issuers rarely default on their debt.
The fund appears on the FE Research Select 100 list but our analysts point out that its unusual investment approach can mean that it can suffer worse losses than its peers in times of market stress.
“The fund could be considered as a satellite portfolio holding, providing income while acting as a diversifier from other more traditional sources of fixed income returns. However, investors should be made aware of the potential for losses should markets take a turn for the worse,” the FE Research team said.
Performance of fund vs sector and index since 21 May 2013
Source: FE Analytics
Smouha recently told FE Trustnet why he does not expect a 1994-style event any time soon: “The market is continually warning of a bond sell-off to come; our view is that we are unlikely to see a repeat of the five-step rise in rates that we lived through in 1994. More likely is a move of one step this year followed by a pause, but any initial move is dependent on both evidence of a sustained pick-up in GDP and that the output gap is closing.”
Other strategic bond funds making strong returns over the two-year period include PFS TwentyFour Dynamic Bond, managed by Eoin Walsh, Gary Kirk, Felipe Villarroel and Pierre Beniguel, which is up 17.67 per cent. Like GAM Star Credit Opportunities, this fund is also one of its sector’s best performers over the more turbulent start of 2015.
The fund has a flexible approach to the fixed-income market and often has holdings that retail investors usually have little or no exposure to, such as asset-backed securities and bank debt. It’s also on the Select 100 and the FE Research team said: “The fund complements traditional fixed income funds well and can also be used as an alternative for anyone worried about a potential correction in the bond market when interest rates rise.”
Royal London Sterling Extra Yield Bond is another strategic bond fund that has beaten the All Share with a 14.23 per cent return.
Managed by Eric Holt since launch in April 2003, the five FE Crown-rated fund aims to achieve a high level of income and seeks a gross redemption yield of 1.25 times that of the FTSE Actuaries British Government 15 Year index.
More than 80 per of the portfolio is in bonds from the BB or below and unrated spaces, with 30.6 per cent of assets in the banks and financial services sector.
Performance of fund vs sector and index since 21 May 2013
Source: FE Analytics
Pimco GIS UK Sterling Long Average Duration, PFS Focus Bond, AXA Framlington Managed Income and Old Mutual Bond 1 are other members of the strategic bond sector that have been able to beat the FTSE All Share over the period in question.
Funds from other sectors doing this are few and far between.
Three come from the IA Sterling Corporate Bond sector: Schroder Long Dated Corporate Bond with a 14.81 per cent total return, Pimco GIS UK Long Term Corporate Bond with 14.56 per cent and F&C Institutional Long Dated Corporate Bond with 14.56 per cent.
Meanwhile, the sole entrant from the IA Sterling High Yield sector is Chris Higham’s five FE Crown-rated Aviva Investors High Yield Bond fund. This is up 14.20 per cent since 21 May 2013. Since Higham took over the fund in November, it has made the sector’s highest returns with a 23.05 per cent gain.
