Liontrust GF High Yield Bond Fund is manufactured by Liontrust Fund Partners LLP and represented in Malta by MeDirect Bank (Malta) plc.
Quarter 3, 2020 – market & fund review
After a period of steady, decent high yield returns and plenty of new issuance, September saw a return of some volatility, ending the grind lower in credit spreads that prevailed in the summer months. It was
the type of small-scale volatility we have become used to in recent years that is better described as mild ETF indigestion. In such a market dynamic, the ‘price action’ is led by the actions of the passive funds, which seem to have flightier capital than the typical mutual fund.
When ETFs face, or fear facing, outflows, they seem to sell what is easiest first, with the impact being more liquid bonds leading a downturn. For example, a BB rated telecom may be seen as ‘higher beta’ than B or even CCC rated bonds from cyclical sectors, certainly over short periods.
One broker comment I read last week described Virgin Media (the UK cable and broadband provider) as a cyclical. I believe this illustrates a dynamic within the market where fear of liquidity and volatility drives thinking on actual default risk. I have often thought this to be the case with the rise of ETFs and, indeed, the popularity, in some circles, of short duration high yield funds.
In Q3, the global high yield market produced a return of 3.8% in sterling terms, after a -1.1% return in September. The US high yield market outperformed its European counterpart during the quarter, producing a return of around 4.3% in sterling, while Europe produced a return of around 2.7%. The strong performance of US high yield has played out most clearly in CCC rated bonds, the lower-quality end of the market, which produced a return of 7.7% in Q3 (sterling). As mentioned, in the September market sell-off, lower-quality bonds did not particularly underperform.
Over the quarter, the Liontrust GF High Yield Bond Fund (A1 accumulation class, total return in euros) produced a return of 3.4% versus the ICE BAML Global High Yield index’s (euro hedged) 3.7%. At a sector level, the standout performer was banking, where our handful of major US bank (GS, JPM, Citi) perpetual bonds produced strong returns. There were no major negative marks on the portfolio, although the biggest detractor to performance was our stockpicking within the energy sector. Energy, where we are underweight, produced market-type returns of around 3%, but our holding in Enquest saw a fall in price of around 10% in the quarter.
Enquest, a 0.8% holding, is a UK-based oil name where our thesis remains that the company will refinance debt in the short to medium term. Although this is substantially the riskiest holding in the Fund, we are not overly concerned by its underperformance in Q3, during which it announced good operating results.
The Fund continues to have low turnover. Given the environment, this is a good illustration of the robustness of our process, where we focus on quality and avoiding accumulations of thematic risk.
During Q3, we participated in several new issues, with a number of them being existing holdings. This included Czech real estate business CPI Property, Davita, a kidney-focused healthcare company, and French electricity generator EDF. One brand new holding taken through the new issue market is PaymentSense, a fast-growing, UKbased provider of payment equipment and services to the small and medium-sized enterprise (SME) sector. The disruptive nature of the company, also in a competitive space, made this feel close to an equity-like investment case but came with a sizeable 8% coupon. As a higher-risk proposition, this is a less than 1% holding in the Fund.
We started the month with a spread on the global high yield market slightly above 5.5%. The spread excluding CCC and energy is also a useful measure of value, given we are unlikely to invest the marginal dollar in these areas, and this spread began the month at 4.3%. Based on long-term history, this is decent value in our asset class.
However, as Covid cases rise and versions of lockdown persist, further damage to the economy feels inevitable, particularly in specific areas. It is therefore right to question how much of the yield will be eroded by defaults. Our bias towards high quality and avoidance of accumulations of thematic, cyclical risk, plus our light exposure to particularly Covid-sensitive sectors, leaves us sanguine on the default risk within the portfolio.
With all this uncertainty, our concrete convictions rest in the companies we lend to and the diosyncratic nature of the Fund we have constructed. We believe that provides a resilience to defaults in addition to a decent source of income and returns, even if we experience volatility in the coming weeks and months.
At the end of September, the net underlying yield on Liontrust GF High Yield Bond was 4.3% (for share classes A1, B1 and C1). We believe our high-quality Fund continues to represent good longterm value to our clients in a world of very low yields and equity dividend uncertainty.
Liontrust Key risks & Disclaimers:
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 GF High Yield 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.
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