Taking a slightly different approach to many emerging market debt funds, the $1.1bn (£656.7bn) Absolute Insight Emerging Market Debt fund, run by Colm McDonagh, is a long/short emerging market debt fund sitting within the IMA Targeted Absolute Return sector.
Mr McDonagh notes: “The fund aims to capture the attractive returns on offer across global emerging market debt, interest rate and currency markets, while limiting the downside that occurs over a market cycle.”
This includes investing across the spectrum of the emerging market debt universe including bonds, interest rates, currencies and credit default swaps.
PROCESS
In terms of the investment process, the vehicle targets a return of at least three-month Libid +4 per cent on a rolling annualised five-year basis gross of fees and expenses. This is targeted using a combined bottom-up and top-down approach. Mr McDonagh explains: “The team look at bottom-up factors that affect each emerging market country, and select the best risk/reward opportunities they observe, but [we] have a top-down approach to the portfolio so that investments in emerging markets are not made in isolation from global macro events.”
For example, he points out that financial distortion caused by the policies of central banks in the developed world have had a large impact on emerging market asset valuations over recent years so the team incorporate these types of factors when making investment decisions.
The long-short approach to the fund, while trying to limit downside also means it is towards the lower end of the risk spectrum, with a level 3 risk reward indicator on its Kiid, while ongoing charges are slightly higher than the norm at 1.77 per cent.
PERFORMANCE
Since the launch of the sterling share class in November 2009, the fund has delivered a positive return of 25.87 per cent to May 29 2014. This compares favourably with the three-month Libid figure of 2.67 per cent in the period and the IMA Targeted Absolute Return sector average of 14.25 per cent, according to FE Analytics.
Shorter-term performance has slipped, given the emerging market sell-off, with a one-year return of 1.69 per cent although this is still ahead of more traditional EM debt funds with the IMA Global Emerging Market Bond sector average recording a loss of 8.79 per cent.
Mr McDonagh notes: “Since the start of the year the portfolio has gone from a defensive approach (net short in certain parts of the market) to net long as risk premiums began to look attractive. We have seen value predominantly in hard currency bonds, high real interest rate local currency debt, but we remain less convinced about emerging market currency exposure.”
For the year-to-date performance has improved with a positive 2.49 per cent, although the manager acknowledges this is slightly behind the IMA Global Emerging Market Bond sector average of 4.84 per cent, according to FE data.
“However, in 2013 the fund had a positive return of 0.9 per cent – not high but it managed to avoid the large negative returns of most long only debt strategies,” he notes.
The manager points to US dollar-denominated government debt and local rates as strong contributors to recent performance, combined with some short positions in commodity currencies.
On the flip side some short positions using credit default swaps (CDS) in China and Turkey, and a small short position in US Treasuries dragged on returns. But Mr McDonagh points out: “The fund structure is committed to always having some long and some short positions, so one part of the book is going to lose money, but that is a price worth paying to have smaller volatility in performance, and to avoid loss episodes like that experienced in emerging markets generally in 2013.”
Looking ahead, he adds: “While global interest rates remain low, the search for yield will continue, which means demand for emerging markets, and market participants will get dragged increasingly into lower-yielding opportunities.
“Some emerging market currencies will have to weaken further into year-end in order for economies to make a competitive adjustment. Overall, [there will be] a lot of variation across a large universe, given the different policy choices governments and central banks are making.”
Expert view
Ben Willis, investment manager and head of research, Whitechurch Securities: “This is actually an absolute return fund – the premise being to tap into the long-term potential of EMD but without the inherent volatility. The manager takes a directional approach, backing areas of the market he is positive on while tactically hedging out risk. Credit to the manager who has achieved the appropriate risk/return profile compared to standard EMD funds. However, the fund is really a niche offering and on the downside, it carries a performance fee.”
