Hepworth eyes niche bond openings

The manager, who has run the £276m Higher Income fund since 1994, has gradually cut the fund’s fixed income weighting to 26 per cent from a high of 61 per cent in 2008.

While he remains bearish on some parts of the asset class – government bonds in particular – Mr Hepworth said he did not intend to cut positions any further.

“We have decided to stop reducing our bond weightings [because] we are happy with them as they are,” he said.

“I’m not saying that the fixed income market’s particularly good value. We don’t think gilts offer any value – the 1.4 per cent yield [on 10-year gilts] doesn’t provide much of a cushion for potential inflationary risks.

“Government bonds generally don’t look like good value.”

Mr Hepworth predicted that an inflation shock could occur, with US unemployment continuing to fall and wage pressure looking likely to emerge.

“Inflation can’t keep going down like it was,” he said.

“I’m getting a bit more of a feeling that inflation has bottomed.”

Instead, the manager has been turning to corporate bonds and similar instruments, where he believes niche areas offer opportunities.

Mr Hepworth has bought bonds issued by supermarket chain Tesco, which he thought was in a stronger position following recent turnaround efforts.

“This bond has a yield of about 7 per cent. Tesco looks fine to us – it still owns more than half of its properties, which is more than any of the other supermarkets,” he said.

“That’s a basis for balance sheet strength. It has also had good like-for-like sales for 13 months in a row. [Chief executive] Dave Lewis is doing a good job of turning things around.

“[Tesco] sold its Korean operations and has reduced debt from £8bn to £5bn in the past 12 months. That plays into improving bond security.”

Mr Hepworth’s fixed income allocation has also been expanded to include bond-like preference shares – a stock that offers payouts before common dividends are delivered – issued by insurers and building societies.

“We like preference shares from high-quality institutions that offer yields of around 6.5 per cent, which are hugely attractive with inflation at zero,” he said.

The manager has bought preference shares from names such as Nottingham Building Society and Coventry Building Society, and could consider adding to these despite some concerns over illiquidity.

“Building societies are an under-researched part of the market. We continue to look to add to these areas,” he said.

“It’s not great liquidity, but if you are a small- or medium-sized fund you can find all the liquidity you need.”

Mr Hepworth’s flagship fund has struggled in recent years, dragging down three-year performance.

The EdenTree Higher Income fund has gained 8.8 per cent over the past three years compared with the average return of 14.1 per cent from the Investment Association Mixed Investment 40-85% Shares sector, data from FE Analytics shows.

The vehicle has fared better across five years, returning 32.8 per cent versus the 28.5 per cent average rise by the peer group.