In the 2 months since the last update, we have seen continuing divergence between risk and defensive assets.
Equities have mostly continued higher and credit has continued its rebound from the start of the year lows, while at the same time we have seen declining government yields.
One of these markets will be right in the long run, whether we have a recession or not! One thing is clear to me - we are in an environment of slowing growth and declining economic data points.
The International Monetary Fund (IMF) and Reserve Bank of Australia (RBA) have taken a razor to growth forecasts globally and domestically. I think the bond market will (as usual) be proven correct, as in the real world of investing, pragmatism usually trumps optimism!!
The portfolio has performed very well in this odd environment as you might have expected.
The lengthening of duration in the conservative part of the portfolio in anticipation of this slowing of growth has paid off, with yields on the government/semi-government bonds decreasing by about 30bps, delivering good price rises of 1-3%, particularly in the QTC 2033.
Investment grade yields have followed lower, and with the wall of cash awaiting new issues, buying at primary has delivered some good gains. The Liberty 2022 FRN was the most recent, and will be followed by the new NAB tier 2 issue in early May. I am glad I resisted selling the Pacific National 2027 fixed rate bonds, as keeping the duration through the rally has delivered good gains here too.
In high yield, I traded the Virgin 2024 in and out for a 32% annualised gain, although this was only over a 3 week period so isn’t really the right number – beware annualisation of short dated gains! Still, 1.7% in 3 weeks is very good. The Maurice Blackburn bond which provided the funds for the Virgin purchase gave me 11.56% annualised before that, so the strategy of turning over high yield bonds rapidly is working in this part of the market too.
With the proceeds from Virgin I bought the new FIIG deal from Armour Energy, which has appreciated to 102.3 already.
Barminco has also been called at 103.31, so I will be booking a nice gain on that in May.
It hasn’t been all good news though, as AxsessToday has formally gone into voluntary administration, and at the weekend Bristow announced it had done the same, filing in the US for a voluntary Chapter 11 bankruptcy protection.
My view on both is that I will get my money back in the end, although coupons will not be paid (with claims for Bristow being indeterminate at this stage) while the companies work through their respective processes.
It goes to show that being as high as you possibly can in the capital structure is very important, even more so in high yield than investment grade.
The other important point is diversification. At 0.9% and 2.1% of the portfolio respectively, these issues are not materially going to affect the overall result. It was a similar situation with Rackspace, which has rallied back from its late December lows of around 78 to 93.25. At 2.5% of the portfolio I kept an eye on it but never lost any sleep.
The AUDUSD rate has also found what seems to be a new lower level, hovering around 0.70, which has delivered further gains to the USD portion of the portfolio.
With 10 year AUD to USD government spreads blowing out from -22bps a year ago to -73bps now, I still expect further AUD downside despite the 6.7% decline in the currency over the same period.
Cracking the 7% barrier for returns whilst 1/3 invested in government bonds has been a welcome surprise. The portfolio remains 69% investment grade, and so maintains its strong focus on preserving capital, whilst the trading activity and positioning has added significant alpha.
The market is throwing up a lot of opportunity at the moment so it pays to be nimble! Hopefully lots more to update on next time!
Inception date of August 2017.
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