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Five top-performing bond funds that aren’t charging you over the odds

31 May 2016

In the final instalment of the series, FE Trustnet looks at the IA Sterling Strategic Bond sector to find out which funds have fees that are well below-average but have delivered strong five-year total returns.

By Lauren Mason,

Reporter, FE Trustnet

Baillie Gifford Corporate Bond, Fidelity Strategic Bond and AXA Framlington Managed Income are among some of the top-performing funds within the IA Sterling Strategic Bond sector that also boast below-average ongoing charges figures, according to data from FE Analytics.

The fixed income space has been out-of-favour among some investors recently due to its lofty valuations and low yields, as well as the fact that many believe the end of the 30-year bond bull market could soon be on the cards.

Performance of sectors since start of data

 

Source: FE Analytics

In an article published last month, an FE Trustnet survey found that 98.28 per cent of participants believed a bond bear market was possible while 65.51 per cent thought there was at least a 50 per cent chance of it happening.

However, a number of investment professionals warn that investors should still hold bonds in their portfolios for diversification and risk management purposes.

“I have to say I can't get that excited by bonds at the moment, but they do still play an important role in terms of diversification in my view – especially for an income portfolio,” Rob Morgan, pensions and investment analyst at Charles Stanley Direct, said.

He believes that strategic bond funds are the best way of gaining exposure to fixed income and FE Trustnet’s survey correlates with this – more than half of survey participants hold funds within the sector, which is significantly more than in any other bond sector.

In a low-yield environment though, charges are arguably more important in order to maximise returns. In the below article, we look at five funds in the IA Sterling Strategic Bond sector that have ongoing charges figures (OCFs) that are significantly below the sector average of 0.77 per cent and have also delivered strong performances over the last five years:

 

Baillie Gifford Corporate Bond – 0.53% OCF

First up is Stephen Rodger and Torcail Stewart’s three crown-rated Baillie Gifford Corporate Bond fund, which is £547m in size and will invest in corporate bonds across the rating spectrum.

The fund’s holdings are chosen through bottom-up stock selection and it will have exposure to between 60 and 80 companies at any one time. As such, the fund is seen as a ‘best ideas’ portfolio of the holdings that the managers like in both the investment grade and high yield spaces.

Over five years, it has made a total return of 38.46 per cent, outperforming its sector average by 12.89 percentage points. However, it has done so with a higher-than-average maximum drawdown – which measures the most potential money lost if bought and sold at the worst possible times – and a higher-than-average annualised volatility.

Performance of fund vs sector over 5yrs

 

Source: FE Analytics

Baillie Gifford Corporate Bond has been awarded an ‘A’ rating by the Square Mile research team, who said: “The team are experienced and stable, with very little turnover other than the junior analysts.”

“We have confidence that the managers will continue to follow this process and to generate a high level of income.”

The fund yields 3.9 per cent.

 

Aviva Investors Higher Income Plus – 0.63% OCF

The next fund to deliver a high total return over five years while maintaining a well below-average OCF is Aviva Investors Higher Income Plus, which has been managed by Chris Higham since 2009 and has four FE crowns.

The £358m fund predominantly aims to provide a high level of income through a wide range of global bonds in a variety of currencies. Approximately 80 per cent of the fund will either be priced in sterling or hedged back to sterling at any one time.


As with the aforementioned fund, it is small in size compared to many of its peers – which often have an AUM of more than £1bn – and will hold a highly-concentrated portfolio of around 90 holdings.

“It’s high conviction but well-diversified as every one of these positions is different. You might see managers with a large number of holdings but they have 10 per cent in a certain market whereas every one of our holdings is differentiated,” Higham explained in an article published last month.

“In terms of asset allocation it is unconstrained and about a third of our performance has come from asset allocation and two-thirds from stock selection. When you look over our returns it has been a fairly consistent outperformance, I think that’s the difference in terms of our philosophy and our approach.”

The fund has delivered a top-quartile total return over one, three and five years, outperforming its average peer by 11.92 percentage points with a total return of 37.49 per cent.

As with Baillie Gifford Corporate Bond though, it has an above-average maximum drawdown and annualised volatility despite achieving a top-quartile risk-adjusted return as measured by its Sharpe ratio.

Aviva Investors Higher Income Plus yields 4.9 per cent.

 

AXA Framlington Managed Income – 0.6% OCF

Next up is AXA Framlington Managed Income, which has an AUM of £266m and has been managed by George Luckraft since September 2002.

The five crown-rated fund aims to produce both a high income and rising levels of growth over the long term, which it does through a portfolio of 119 holdings.

While the funds’ return has been below-average over the last decade, it has almost doubled its sector average over three years and, over the last five, it has made a total return of 35.65 per cent compared to its peer group composite’s 25.57 per cent. Over the same time frame, however, it has doubled the maximum drawdown of its average peer and has a significantly higher annualised volatility.

Performance of fund vs sector over 5yrs

 

Source: FE Analytics

Regarding his current market outlook, the manager said in his latest factsheet: “The recovery in the oil price is likely to increase inflationary pressure. This could increase further if sterling weakens due to the Brexit vote.”

“Interest rates are likely to remain at depressed levels, meaning that investors should continue to seek income.”

AXA Framlington Managed Income yields 4.51 per cent.

 

AXA Sterling Strategic Bond – 0.52% OCF

The fourth fund on the list for achieving a strong five-year performance while retaining a notably low OCF is AXA Sterling Strategic Bond, which has had Nick Hayes at its helm since 2010.

The £184m fund aims to provide a combination of income and growth that is higher than the sterling-denominated investment grade bond market over the long term. While it is able to invest across the globe, every single one of the fund’s top 10 holdings are in gilts that have various maturity dates between 2018 and 2060 and have coupon rates that range between 1.75 per cent and 5 per cent.


“2016 has been volatile with many blaming a combination of both local events (Brexit) and global events (commodity prices, weaker China growth) combining to push government bond yields lower and credit spreads to rally strongly,” Hayes explained in his latest factsheet.

“Due to the extreme valuations in fixed income, the asset class still appears to be ‘under-owned’ by investors. This means that when, for example, government bonds rally, the moves are exaggerated, so underweight investor are forced to buy bonds as the pressure of underperformance increases.”

“Given this consensual ‘underweight’ position in government bonds, we believe that the asset class can maintain its extreme valuations for a while longer. Although clearly at some stage, with greater confidence in the global economy, yields will likely have to move higher.”

Over the last five years, the fund has made a 34.19 per cent total return compared to its sector average of 25.57 per cent – it is also in the top quartile for its performance over this time frame as well as over one and three years.

As with the aforementioned funds, AXA Sterling Strategic Bond has a higher-than-average annualised volatility and maximum drawdown over the last five years. It currently yields 2.3 per cent.

 

Fidelity Strategic Bond – 0.68% OCF

The final fund to make it onto the list is the £1.6bn Fidelity Strategic Bond fund, which has been managed by FE Alpha Manager Ian Spreadbury since 2005.

The fund adopts a top-down focus based on global research, which is then paired with bottom-up credit analysis and quantitative modelling – this has led to a portfolio of 829 holdings that are a mixture of investment grade bonds, government bonds, corporates, financials, government index-linked bonds and mortgage-backed securities.

The portfolio is also well-diversified in terms of region, with a 45 per cent weighting in the UK, followed by 16.52 per cent in North America, just over 20 per cent in Europe and smaller weightings in Australia, the Middle East, Asia Pacific and Japan.

As such, the fund has a top-quartile maximum drawdown and annualised volatility over the last five years and an FE Risk Score that suggests it has been shown just 19 per cent of the FTSE 100 index’s risk.

In terms of its performance over this time frame, it has outperformed its sector average by 7.05 percentage points with a total return of 32.62 per cent, although it has underperformed its BofA ML Sterling Large Cap benchmark by 4.47 percentage points.

Performance of fund vs sector and benchmark over 5yrs

 

Source: FE Analytics

“Mr Spreadbury is an extremely experienced manager who has built up a strong reputation for successfully managing fixed income funds over a number of market cycles, generating good long-term returns for his investors,” the Square Mile team, which awarded the fund an ‘AA’ rating, said.

“He has established a prudent and well-considered investment approach that looks to ensure the fund is well diversified and should meet its income objective in a broad range of economic scenarios.”

Fidelity Strategic Bond currently yields 2.88 per cent.

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Data provided by FE fundinfo. Care has been taken to ensure that the information is correct, but FE fundinfo neither warrants, represents nor guarantees the contents of information, nor does it accept any responsibility for errors, inaccuracies, omissions or any inconsistencies herein. Past performance does not predict future performance, it should not be the main or sole reason for making an investment decision. The value of investments and any income from them can fall as well as rise.