Liontrust Strategic Bond Fund

June 2018 review

The much anticipated tapering of quantitative easing by the European Central Bank was announced. It did this in a dovish way by including both conditionality and a commitment to not raise rates until at least late summer 2019 (generally interpreted as September). To introduce such forward guidance now, 11 years after the credit crunch started, strikes us as more than a little disingenuous. We are sure Draghi’s loose money approach will be causing many sleepless nights amongst Bundesbank staff, particularly with German CPI running at a 2.1% annualised rate.

On the subject of sleepless nights, President Trump still sends out tweets at any and all hours. In amongst the narcissistic self-aggrandisement there are some market moving proclamations. June certainly witnessed an escalation of trade tensions, with tariff threats growing in size and breadth as well as proposed retaliatory measures internationally. 

Government bond yields finished the month little changed from the end of May, having risen for the first few days of June and then rallied in the ‘risk-off’ sentiment afterwards. Credit spreads widened during June due to the combination of the prevailing sentiment and a deluge of new issuance that came at a significant discount to secondary trading levels. The US dollar continued its seemingly inexorable 2018 trend of marching ever higher and this created additional pressure upon the emerging market complex.

Rates

Our low beta duration strategy remains unchanged with the Fund finishing the month with a factor-adjusted underlying duration of 2.6 years* (3.5 years unadjusted). The size of the short Canadian 10 year bonds (using futures) versus long the US was increased to 1 year; trade tensions had caused the yield differential to widen despite the underlying improvement in the Canadian economy and the high probability of an imminent rate rise there. The spread tightened when Poloz, the Bank of Canada governor, reminded the market of this toward month end.

We continue to favour yield curve flatteners in the US (short 5 year bonds, long 30 year bonds). However, with Draghi’s proclamations in Europe the conditions are ripe for inflation to gather momentum in the eurozone. The Fund has sold approximately 0.25 years of duration in 30 year German bond futures and we will watch for opportunities to increase the size of this curve steepening position.

Allocation

At the margin, the Fund used the credit weakness to add a little to its investment grade weighting, the combination of conventional investment grade bonds (33%) and floating rate notes (7%) summing to approximately 40%.

The Fund remains zero weighted in emerging market debt. We await any temporary strength in the asset class in order to establish a short in hard currency sovereign debt (via the CDX EM index) versus the exposure in high yield assets.  Both asset types are correlated to strong global growth and loose monetary conditions, with high yield far more reliant on developed market activity levels.

Selection

The two most notable new additions to the Fund were a Volkswagen hybrid bond and Bayer. VW has done a good job of weathering the emissions scandal and has used it as a catalyst to take some much needed self-improvement measures.  The new euro-denominated bonds are perpetual in nature with a call after 10 years. In our opinion, a coupon of 4.625% offers ample compensation for this structure. Bayer undertook a multi-tranche bond offering to help finance a large acquisition; the Fund participated in a 5-year US dollar FRN offering a spread of 101 basis points, as well as a smaller holding in 11 year maturity conventional euro debt which we believe offers some near-term capital upside.

For a comprehensive list of common financial words and terms, see our glossary here.

 

Key Risks

Past performance is not a guide to future performance. Do remember that the value of an investment and the income generated from them can fall as well as rise and is not guaranteed, therefore, you may not get back the amount originally invested and potentially risk total loss of capital. The issue of units/shares in Liontrust Funds may be subject to an initial charge, which will have an impact on the realisable value of the investment, particularly in the short term. Investments should always be considered as long term.

Investment in the Strategic Bond Fund involves foreign currencies and may be subject to fluctuations in value due to movements in exchange rates. The value of fixed income securities will fall if the issuer is unable to repay its debt or has its credit rating reduced. Generally, the higher the perceived credit risk of the issuer, the higher the rate of interest. Bond markets may be subject to reduced liquidity. The Fund may invest in emerging markets/soft currencies and in financial derivative instruments, both of which may have the effect of increasing volatility.

Disclaimer

This content should not be construed as advice for investment in any product or security mentioned, an offer to buy or sell units/shares of Funds mentioned, or a solicitation to purchase securities in any company or investment product. Examples of stocks are provided for general information only to demonstrate our investment philosophy.  It contains information and analysis that is believed to be accurate at the time of publication, but is subject to change without notice. Whilst care has been taken in compiling the content of this document, no representation or warranty, express or implied, is made by Liontrust as to its accuracy or completeness, including for external sources (which may have been used) which have not been verified. It should not be copied, faxed, reproduced, divulged or distributed, in whole or in part, without the express written consent of Liontrust. Always research your own investments and (if you are not a professional or a financial adviser) consult suitability with a regulated financial adviser before investing.

Friday, July 6, 2018, 12:06 PM