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The strat bond funds proving their worth for DFMs; Don't get too cute on credit

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Long-term strategy

Strategic bond funds are the mainstay of many a DFM portfolio, but interest hasn’t been too ravenous this year. Fund buyers were quick to capitalise on March’s dislocation in the corporate bond market, but that translated into targeted fund selections rather than catch-all portfolios.

As a result, net flows into sterling strategic bond funds have been outstripped by both corporate and sterling high yield fund purchases since April. But plenty of strategic offerings retain their place on buy-lists. Below are the current leading lights, as judged by our fund selection database:

In total, three in five DFMs holding strat bond funds have turned over one or more of their holdings over the past couple of years. But compare the above chart with the state of play in late 2018 and things look remarkably similar, all told. That’s because the buying and selling hasn’t centred on specific funds. The likes of M&G Optimal Income and Fidelity Strategic Bond have fallen away, while Allianz Strategic Bond has inevitably moved up the ranks. But you’d be forgiven for expecting even more interest in the latter, given its recent performance.

Instead, the top funds remain exactly the same: those run by TwentyFour, Jupiter, Janus Henderson and Artemis. One reason for this is that performance has been above par for three of those four: only TwentyFour has produced lower than average returns so far this year. They may not be the latest go-to option, but go-anywhere strategies are still delivering the goods for wealth managers.

Yielding ground

Speaking of credit: one notable feature of yesterday’s sell-off was that high-yield debt, particularly in the runaway US market, joined in the slump. US high-yield ETF prices touched their lowest level since July yesterday; prior to that they’d appeared relatively unaffected by the pullback seen earlier in the month.

By contrast, investment grade assets held up relatively well. This at a time when the Fed has been gradually easing off on its corporate credit purchases. If you believe that the central bank now dictates all things, that pullback will have a bigger impact on the riskier parts of the market as investors grow more jittery.

It’s clear, either way, that the big HY valuation opportunity that emerged earlier this year has now receded.

That doesn’t mean a wholesale reversal is on the way: the likes of the BlackRock Investment Institute have only recently increased their overweight to high yield, pointing to default estimates that are, even now, “overly pessimistic”. At the same time, issuance remains at elevated levels – again, particularly in the US. And you don’t have to look hard to realise there are several political and economic headwinds that might blow investors’ way in Q4.

Central bank support could again prove a powerful counter-measure to these forces. The answer, as TwentyFour suggests this morning, may be to avoid getting “too cute”: if we are now back in an early-cycle moment, there’s reason enough to look beyond the near-term problems and maintain positions.

About face

While it’s not today’s most obvious “shift in emphasis”, Bank of England governor Andrew Bailey has elaborated further on the negative rates discussion that we highlighted yesterday. BoE minutes sparked debate on the subject last week; today Mr Bailey said the central bank wouldn’t go negative in the near future.

But it’s a more explicit U-turn that arguably has more relevance to the future of the economy. Earlier this summer the governor said he supported the decision for the UK’s furlough scheme to come to an end in October. Today, perhaps waking up to the fact that hospitality businesses may be constrained again this winter, the message was slightly more nuanced. More concrete developments on this front may well be needed in the coming weeks.

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