Steven Tang
Several Fixed Income Managers will need to expand their current investment toolkit going forward according to Steven Tang, Senior Investment Analyst at Zenith investment Partners according to their 2014 Australian Fixed Income Sector review released last week.
Tang noted “one relatively simple and key way for active managers in the sector to outperform over recent years has been to overweight corporate debt (i.e. credit) in their portfolios”.
The spreads (margin over government bonds with equivalent maturities) on these instruments have narrowed aggressively due to the insatiable investor demand for income producing assets in a zero interest rate policy world.
Consequently, manager portfolios have benefited as prices have risen on these instruments. Whereas this environment has favoured managers with a credit orientation, spreads have tightened to such a degree now that the future may favour those with a more diverse skillset.
However, despite making this observation, Tang notes that managers continue to maintain a healthy overweight to credit in their portfolios, believing that it still offers value.
In a world of reduced market liquidity, Tang highlights that this poses potential challenges and risks for managers and hence investors.
While one primary way managers have attempted to address these risks is through their expanded use of credit derivatives, Tang cautions that they may not offer the panacea advertised in a large scale credit event, or in the face of large-scale fund redemptions.
Nevertheless, despite this cautionary tale Zenith believes that fixed income remains a crucial part of any medium to long term portfolio structure.
However, it is very important that investors understand the risks that are embedded in manager portfolios and seek managers that have ability to add value in different market environments.
Over the 12 months to 31 May 2014, the Australian fixed interest market, as represented by the UBS Composite Index (All Maturities), returned 4.14%.
From an initial universe of 78 Cash and Australian Fixed Interest funds reviewed in the report, 4 were rated “Highly Recommended”, 23 “Recommended”, 9 “Approved”, and 42 “Not Rated”.