Credit where it's due as HY funds deliver for DFMs; Navigating a sea of US equity risks
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Sole survivor?
There’s one part of the bond market that once again had a pretty good time of it in the first quarter. With developed market government bonds struggling, and investment grade securities dipping as a result, it was down to high yield to carry the flag for the asset class.
To that end, the IA’s Sterling High Yield sector returned 1.2 per cent in the first quarter, compared with losses of 7.4 per cent for the UK gilt sector, 3.3 per cent for the corporate bond grouping and 1.2 per cent for strategic bond funds.
With investor hopes now pinned on economic recovery, that makes a certain amount of sense – plus HY debt is clearly less sensitive to government bond yields, particularly in a market still underpinned by central bank support.
Yesterday’s Bank of America fund manager survey underlined this optimism: a record 45 per cent of respondents expect high yield to outperform ‘high grade’ bonds over the next year.
As TwentyFour points out, there are other parts of the credit complex that also withstood the pressure in Q1. But it’s high yield that’s the most viable standalone option for DFMs.
Historically, wealth firms have been slightly reticent to include dedicated HY funds in their portfolios – certainly in comparison to the likes of corporate or strategic bond funds. Most were similarly content to turn to investment grade offerings to capture the credit rally last spring.
This year, heads could turn a little more, particularly if high-yield performance continues to diverge from that of the more popular picks. The average strat bond fund loss in Q1 was little to worry about, but many of wealth managers’ favourite picks in the sector underperformed that bar. The same goes for the corporate bond sector. If these strategies remain in the red for much longer, alternatives might start to be more seriously considered.
The bigger picture
A sign of the times: last month was the worst for investment factors’ impact on hedge fund returns since 2010, according to Morgan Stanley. In short, that implies hedge fund strategies were very much the wrong side of both the value and momentum trades, not least because one is now starting to turn into the other.
That said, the bank’s analysts also note that short positions actually performed “relatively well” on the month, helping offset some of the negative alpha on the long side.
The word ‘relatively’ is the operative one here, because most equities continued to move higher in March. For long-only investors, the bigger concern is how to pick and choose the companies that are best positioned for the future.
In the US, according to Bespoke Investment, every sector other than energy – which has dipped again in recent days – is currently in overbought territory. Of the 30 Dow Jones constituents, only Disney, Nike and Johnson & Johnson are below their 50-day moving averages.
But this muddied picture will probably encourage DFMs, in a manner of speaking. Insofar as there's no ‘obvious’ call to make, their equity allocations, particularly in the US, might be best off left alone. Looking ahead over the next quarter, and the consensus suggests the period of adding small-cap exposure is at an end, value will continue to rise up the fund selection pecking order, but overall a balanced approach remains the order of the day.
Ready and waiting
Another sign that investors are a little calmer about inflation, for now, came with the publication of latest US price data yesterday. Consumer prices rose by the most in nine years in March, slightly ahead of forecasts, but that didn’t knock asset prices in the way some may have feared.
Some analysts have pinned the reaction – which saw Treasury yields fall rather than rise – on investors being more concerned with an uptick in virus cases in the US. But there’s also an argument to say that inflation expectations are set firm for now, and it will take much stronger data to spark another Treasury sell-off of the kind seen a few weeks back. In the meantime, the holding pattern resumes.
