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M&G Optimal Income loses spot as the professionals’ favourite bond fund

03 February 2016

In the next article of this annual series, FE Trustnet reveals that the popularity of the M&G Optimal Income fund has waned significantly as it is no longer the most widely held bond fund among professional investors.

By Alex Paget,

News Editor, FE Trustnet

The five crown-rated PFS TwentyFour Dynamic Bond fund is now the most popular fixed income fund with multi-managers, according to the latest FE Trustnet study, having overtaken M&G Optimal Income as the most widely held IA Sterling Strategic Bond and IA Sterling Corporate Bond portfolio.

According to FE Analytics, some 27 funds of funds count PFS TwentyFour Dynamic Bond as a top 10 holding, which is a significant increase in popularity from last year when FE Trustnet found that only 12 multi-managers held it in their top 10.

This surge in status seems to have come at the expense of FE Alpha Manager Richard Woolnough (pictured), whose M&G Optimal Income is now second on the list with 26 top 10s after sitting at the top of the popularity tables in 2013, 2014 and 2015.

The study, similar to when we looked at the most widely held UK growth funds, shows that fixed income trackers have also become more popular with fund of funds managers as two passives (BlackRock Corporate Bond Tracker and Vanguard UK Investment Grade Bond Index) now feature on the list.

Most popular strategic and corporate bond funds with multi-managers

 

Source: FE Analytics

As the table above shows, the £1.4bn PFS TwentyFour Dynamic Bond fund has seen the largest increase in popularity out of the funds on the list since last year.

According to FE data, those 27 that count it as a top 10 holding include the likes of Jupiter Merlin Income, Premier Multi-Asset Distribution and F&C MM Navigator Distribution as well as portfolios from the Architas MA and SVS Cornelian ranges.

TwentyFour, as a group, has become increasingly popular due to its pure focus on fixed income and its experienced management team. Therefore, it may come as little surprise that the TwentyFour Dynamic Bond fund – which is headed by Eoin Walsh, Gary Kirk, Felipe Villarroel and Pierre Beniguel – sits at the top of the list given it is the group’s most flexible strategy.

The fund, which yields 4.78 per cent, has been a top decile performer in the IA Sterling Strategic Bond sector since its launch in April 2010 and has beaten its average peer by some 15 percentage points.

While it has had one of the highest maximum drawdowns and annualised volatility scores over that time, it has had the third best risk-adjusted returns (as measured by its Sharpe ratio) since inception.

Performance of fund versus sector since launch

 

Source: FE Analytics

Except for 2011 when it fell 2.34 per cent, PFS TwentyFour Dynamic Bond has beaten its peers in every calendar year since launch.


 

The high conviction portfolio, which invests across the fixed income universe and is currently biased towards high yield credit, is now soft-closed to investors but it still available on certain platforms.

Over recent years, this study has shown that M&G Optimal Income has been the most widely held bond fund with multi-managers – but its popularity has been falling more recently.

In 2013 and 2014, it held top spot in this study with 46 top 10s. Last year, it was still number one with 36 top 10s but this time around only 26 fund of funds count it as a top 10 holding.

Woolnough’s portfolio has seen significant outflows over the past 12 months (£7.2bn according to FE data) and this study suggests a significant portion of that has come from institutional investors.

Currently, M&G Optimal Income stands at £16.2bn having peaked at a size of £24.5bn in November 2014.

There doesn’t seem to be one reason in particular for these redemptions. There is the argument because it was so popular and so large, if investors were to move money away from fixed income due to toppy valuations in the asset class, M&G Optimal Income would always be hit the hardest.

However, an FE Trustnet article last year dispelled this as while Woolnough had seen the largest net outflows over the prior six months, it amounted to a 19 per cent reduction in its original asset base. But other large funds such as Invesco Perpetual Monthly Income Plus and L&G Dynamic Bond only saw a fall of around 10 per cent in their assets because of outflows.

The fund’s waning popularity among professional investors also comes during a period when it has underperformed, though.

FE data shows it was third quartile in 2014, bottom quartile in 2015 and so far bottom quartile in 2016.

Performance of fund versus sector since Jan 2014

 

Source: FE Analytics

While some have suggested those lacklustre returns were initially due to the fund becoming too large, therefore hindering the manager’s flexibility, and then the subsequent outflows have hurt performance, the likes of FE Research’s Thomas MacMahon argue it is to do with Woolnough’s asset allocation calls more than anything else.

“The reason for his underperformance is that he has been low duration, it is not because of the size of the fund,” McMahon said.

“Woolnough has been bullish on the economy and expecting and preparing for a rate rise for some time and the fund has underperformed because of the massive rally in long duration in the first part of the 2015.”

It must be noted, though, that M&G Optimal Income has been the second best performing portfolio in the sector since its launch in December 2006. It also has notable backers such as HL Multi Manager Strategic Bond, Old Mutual Voyager Strategic Bond and Schroder MM Diversity Income, which all count it as a top 10 holding.


 

Moving away from M&G Optimal Income now and it seems professional investors are increasingly turning to passively managed portfolios for their bond exposure.

For example, BlackRock Corporate Bond Tracker is now the third most popular bond fund with multi-managers and Vanguard UK Investment Grade Bond Index is sixth with 24 and 17 top 10s, respectively. That is a significant increase from last year’s study where the funds featured in 17 and 13 top 10s, respectively.

Both funds are more than £1bn in size, though the Vanguard offering is more highly-rated with our research team given its five FE Passive Fund Rating.

That is largely because the Vanguard fund has been more effective at tracking its benchmark (the Barclays Global Aggregate UK Non-Government Float Adjusted index) – both from tracking error and tracking difference points of view – over the past five years than BlackRock Corporate Bond Tracker, which is benchmarked against the IBOXX UK Sterling Non-Gilts All Maturities index.

Nevertheless, though many believe bond trackers to be dangerous in the current environment of falling liquidity, low yields and potential interest rate rises, both funds have beaten the IA Sterling Corporate Bond sector average over that time.

Performance of fund versus sector and indices since over 5yrs

 

Source: FE Analytics

The increase in the two funds’ popularity may well have come at the expense of the other funds featured on the list.

While Jupiter Strategic Bond features in 19 top 10s like last year, the likes of Fidelity Moneybuilder Income, Kames Investment Grade Bond, M&G Corporate Bond (which is also run by Woolnough) and Invesco Perpetual Corporate Bond have all seen the number of fund of funds that count them as top 10 holdings decrease over the past 12 months.

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