Rees’s £247m Premier Multi Asset Distribution fund is a top-quartile performer in the IMA Mixed Investment 20%-60% Shares sector over one, three and five years.
The manager is bearish on the outlook for fixed income in general and thinks that investors need to be very selective in the funds they buy.
He urges investors to hold smaller, more nimble bond funds as they are more flexible and have the ability to take higher-conviction positions.
“We are very cautious on bonds,” he said. “We have had a period of unprecedented financial stimulus where there have been forced buyers. The Bank of England owns a huge part of the gilt market, for instance. It is an artificial and rigged market and the backdrop is poor.”
As a result, Rees is sticking with “slender” bond funds as they will be able to jump on pockets of value faster than their larger rivals.
“If they are small and nimble, the managers are able to express their views in a more practical way. It means they can be more focused and conviction-led,” he said.
“Also, you need to be in more nimble bond funds given the well-known liquidity pressures in the corporate bond market. We hear tales of the lack of market making and that the average deal size is now not very big.”
“If you have a big bond fund, you are hampered as it means it would take an impossible amount of time to build up a decent position,” he added.
Some of the largest actively managed bond funds in the IMA universe include FE Alpha Manager Richard Woolnough’s £16bn M&G Optimal Income and the £5.5bn Invesco Perpetual Corporate Bond, which is headed up by the star manager duo of Paul Read and Paul Causer.
However, as FE Trustnet recently highlighted, Woolnough says the sheer size of his fund has started to create difficulties with his day-to-day management.
Quoting data from Baillie Gifford, Rees says the size of the average Sterling Corporate Bond issue is just £315m. The manager says this presents a problem for larger funds as they will be forced to buy huge swathes of bonds instead of taking high-conviction positions.
“If you have a smaller fund, it can be more focused and concentrated rather than being forced to be diversified,” Rees added.
Rees highlights three of the nimble bond funds he uses in his portfolios.
Royal London Corporate Bond
Rees is a fan of the Royal London Corporate Bond fund, which is managed by Jonathan Platt and Sajiv Vaid. The fund has £488.5m worth of assets under management and Rees says this allows the managers to dip into the lower end of the credit market.
“The total money they run is quite manageable,” Rees said. “As well as holding some of the more conventional investment grade corporate bonds, the managers can also look for un-rated bonds.”
Platt and Vaid hold more than 64 per cent of their fund in credit rated BBB and below, with 12.1 per cent of that invested in non-rated bonds. That exposure certainly helps the fund's yield, which currently stands at 4.38 per cent.
According to FE Analytics, it is a top-quartile performer in the IMA Sterling Corporate Bond sector over three years with returns of 25.27 per cent and has marginally outperformed its benchmark – the iBoxx Sterling Non-Gilt All Maturities index – in the process.
Performance of fund vs sector and index over 3yrs
Source: FE Analytics
The Royal London fund has also weathered this year’s volatility better than most, given the fact it is a top-quartile performer over the last 12 months.
It has an ongoing charges figure (OCF) of 0.94 per cent and requires a minimum investment of £1,000.
Baillie Gifford Corporate Bond
Rees also holds the £330.8m, five crown-rated Baillie Gifford Corporate Bond fund.
It sits in the IMA Sterling Strategic Bond sector, something Rees likes because it means the fund’s managers have the flexibility to dip into some of the less mainstream areas of the fixed income market.
“We want to move away from the big crowded plays,” he said.
“That is why we like the Baillie Gifford fund, as they hold asset-backed securities and also have a high exposure to the cross-over space between high yield and investment grade credit,” he added.
Baillie Gifford Corporate Bond is co-managed by Stephen Rodger and Torcail Stewart. It has a yield of 4.6 per cent.
The fund's largest exposure is currently to asset backed-securities, at 17.2 per cent of AUM. Baillie Gifford Corporate Bond, like others in the sector, also uses derivatives to dampen down volatility.
Our data shows the fund is the fifth-best performing portfolio in the IMA Sterling Strategic Bond sector over 10 years with returns of 78.27 per cent.
Performance of fund vs sector over 10yrs
Source: FE Analytics
It is also a top quartile performer over three and five years, although it sits in the third quartile over the last 12 months.
It has an OCF of 1 per cent and requires a minimum investment of £1,000.
Airlie Select US High Yield
Like other industry experts, Rees thinks that high yield on the whole is very crowded. However, he likes the offshore Airlie Select US High Yield fund because it can access the less popular parts of the market.
“We are quite cautious of high yield in general, but if we do want exposure for diversification purposes, then we want to be invested in the areas that are being overlooked,” Rees explained.
“We hold the Airlie Select US High Yield fund, which only invests in sub-£100m issues.” Given the huge flows into the high yield ETF market, a lot of investors cannot access the smaller issues. This means that the Airlie fund is insulated,” he added.
The $79m Airlie Select US High Yield fund is domiciled in Luxembourg, but is ISA eligible.
It was launched in March this year and over that short period of time it has outperformed the FO Fixed Interest US High Yield sector, though it has still lost 4.51 per cent.
Performance of fund vs sector and index since Mar 2013
Source: FE Analytics
The fund is made up of just 44 bonds with an average duration of 3.4 years. The current yield is 10 per cent.
Due to the fact it was only launched in the spring, it does not have an OCF yet.
Click here to learn more about bonds, with the FE Trustnet guide to fixed interest.
