Liontrust GF Strategic Bond Fund

July 2020 review

The Liontrust GF Strategic Bond Fund returned 2.2%* in US dollar terms in July. The average return from the EAA Fund Global Flexible Bond (Morningstar) sector, the Fund’s reference sector, was 1.9%.

 

Market backdrop

As the backward-looking economic data covering the height of various countries’ lockdowns trickled out, we can see what we already know to be true – that activity levels fell by record amounts during the second quarter of 2020. The first release of Q2 2020 GDP in the US was -32.9% annualised, roughly four times the magnitude of the drop seen in Q4 2008 post Lehman Brothers’ default. As stated though, this data was always going to be dire and markets have, quite rightly, long since moved on to focussing on the recovery.

The path of the recovery was never going to be V-shaped given the changed working practices required, the economic scars of the crisis and further Covid-19 infection flare-ups. Market sentiment continues to oscillate between positivity over the recovery and fears of second waves of Covid-19; the range within which risk assets now trades though has narrowed due to the ongoing market support from central bankers’ largesse.

The US had to pause easing lockdown restrictions as significant outbreaks occurred in various sunshine states.  These have passed their zenith and new cases are fortunately presently trending downwards. The poor handling of the crisis in the US has manifested itself in currency weakness; the US Dollar fell by 4.6% against the euro during July, the single biggest monthly fall since 2010. US Treasury yields touched record low levels but given the starting point of already ultra-low yields, this is more headline grabbing than an all-out bond rally. Once again, we emphasise that you need to be in the right part of the bond market to benefit from this as long-dated bonds outperformed their shorter-dated cousins e.g. 30-year yields fell 22 basis points compared to only a 9 basis points rally for 5-year yields; or, in bond jargon, July saw a bull flattener. 

Sovereign bond markets will find it hard to sustain these yield levels with record amounts of supply from governments financing their budget deficits and as authorities get better at isolating localised virus hotspots.  In a free market the metaphorical “bond vigilantes” might already be extracting more yield from profligate governments, but we operate in a financially repressed market driven by central banks. It will therefore be fascinating to see how the US Federal Reserve’s policy evolves at its September meeting when changes are expected. Rather than outright yield curve control, the Fed is likely to opt for some form of enhanced forward guidance; there could be a commitment to keep rates low until specific milestones have been met. The Fed will undoubtedly want to run the economy hot for a while to help close the output gap; what they may do is start targeting nominal GDP or even average inflation rates. This is supportive for short-dated bonds as base rates would remain anchored for longer than needed, but any longer tenors would be vulnerable to rising growth and inflation. So, we have money printing financing government debt and central banks aiming for higher inflation rates – it is no surprise that inflation breakevens have been doing well or, if I may comment ultra vires, that the gold price has hit a new record high.

Rates

If one only considered valuations, then the duration of the Fund would be zero. We do though have to respect the technicals of central bank buying so retain a low duration exposure and associated small correlation to sovereign bond markets.  At the end of July, the Fund had 2.5 years duration, with a strong preference for the US. Within our limited duration exposure, we have been positioned in the right places, namely longer-dated US Treasuries. Furthermore, the Fund also benefitted from having 0.5 years’ exposure to TIPS (Treasury Inflation Protected Securities).

Allocation

The Fund continues to be significantly exposed to credit having made a large asset allocation increase during the crisis. The combined weighting is approximately 80%, split between 57% investment grade and 23% high yield; note that 6% of the high yield exposure is through a CDS index overlay using iTraxx Xover. We have reduced iTraxx Xover exposure during the month, favouring the purchase of physical holdings.

Selection

The continued credit spread rally was beneficial for the Fund during July. Performance at the stock selection level was very much incremental in nature with only a few standout performers during July. Subordinated Citigroup bonds were one of the larger gainers for the Fund during July and Origin Energy’s credit spreads continued their grind tighter.

Profits were taken in Anheuser-Busch’s bonds as they had become fully valued and offered no more upside in our view. A new issue was purchased from Bayer, the German pharmaceutical and life sciences/agri-chemicals company. The Fund used to own exposure to Bayer but sold it when the company became embroiled in litigation inherited from their acquisition of Monsanto. Bayer has now agreed a settlement for the majority of claims; with this overhang of uncertainty greatly reduced we are comfortable investing in the name again and believe the new bonds offer value as other investors will follow suit.

Discrete 12 month performance to last quarter end (%)**

 

 

Jun-20

Jun-19

Liontrust GF Absolute Return Bond B5 Acc USD

3.5

7.3

 

*Source Financial Express, as at 31.07.20, total return, B5 share class.

 

**Source Financial Express, as at 30.06.20, total return, B5 share class. Discrete data is not available for five full 12 month periods due to the launch date of the portfolio.

 

Fund positioning data sources: UBS Delta, Liontrust.

 

Adjusted underlying duration is based on the correlation of the instruments as opposed to just the mathematical weighted average of cash flows. High yield companies' bonds exhibit less duration sensitivity as the credit risk has a bigger proportion of the total yield; the lower the credit quality, the less rate-sensitive the bond. Additionally, some subordinated financials also have low duration correlations and the bonds trade on a cash price rather than spread. 

 

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. Investment in Funds managed by the Global Fixed Income team 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 Funds may invest in emerging markets/soft currencies and in financial derivative instruments, both of which may have the effect of increasing volatility.

Disclaimer

The information and opinions provided 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. 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, August 7, 2020, 3:43 PM