Fixed Income  

100 Club: Newton’s Cunningham laments ‘dangerous’ duration

100 Club: Newton’s Cunningham laments ‘dangerous’ duration

Newton’s Howard Cunningham has been cutting duration in his Long Corporate Bond fund, acknowledging the vehicle’s preferred area has “never been so dangerous” to invest in following central bank intervention.

The Newton bond manager has witnessed valuations skyrocket further since the Bank of England’s (BoE) post-referendum commitment to buy sterling corporate bonds.

This has led to the generally longer-duration vehicle pegging back its exposure to the higher end of the curve. Mr Cunningham said market expectations were not in line with the BoE’s messages on long-term base rate moves.

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The £124m fund has cut duration by almost one year since the UK’s June 23 referendum and August’s subsequent announcement by the central bank, bringing it down to 11.5 years compared with the benchmark’s 13.2.

“I think long-dated corporate bonds have never been so dangerous,” Mr Cunningham said.

“The only justification for long corporate valuations is that the market is convinced this is only the start, and that negative rates and more quantitative easing are inevitable, and therefore buy them now before they become even more scarce and highly valued.”

He accused the market of being “too focused” on the BoE’s recent pledge to buy around £10bn of corporate bonds, and ignoring the fact that governor Mark Carney has indicated interest rates would not go negative.

“The reason we’re not convinced it will be plain sailing for long-dated credit is that compared with other central banks, the BoE seems more resistant to the idea of negative rates,” Mr Cunningham said.

“The corporate bond buying programme is fixated on the £10bn number and it’s ignoring the ‘up to and over 18 months’ part of what [the BoE] said. Since they made the announcement that they might conceivably spend £10bn, the market value of the over 10 year index has jumped by about £20bn,” he added.

The manager sold positions in the retail space, such as in clothing store Next, and bought short to intermediate credit, asset-backed securities, and infrastructure assets such as Heathrow Airport and Exchequer, while building up his cash position to 5 per cent.

Mr Cunningham is also focusing on shorter-dated bonds from firms like Intercontinental Hotels Group, which benefit fund liquidity.

An eye on liquidity is also the foundation for the fund’s largest individual holding – debt issued by the European Investment Bank (EIB). The manager holds the EU’s not-for-profit lender as it is easily bought and sold, rather than due to huge conviction over future performance.

“It’s one of our closest proxies for government bonds. For liquidity purposes and for ease of adding or subtracting duration, EIB is one of the most liquid non-gilt alternatives,” he said.

Mr Cunningham also warned against too much reliance on central bank intervention to boost the economy, joining the ranks of those now questioning the power of monetary policy.

“I think you have to bear in mind that with low yields and low duration comes more risk to capital and we are getting very dependent on intervention. The belief in central banks’ powers tends to wax and wane and at the moment there seems to be a lot of faith being placed in the BoE in particular.”