Thursday 30 April 2020 by Jonathan Sheridan FIIG Sample Portfolios Sales commentary

Sample portfolios – providing a framework and a benchmark

Many financial advisors and institutions provide sample portfolios. FIIG is no different.

They are useful to existing and prospective clients as they demonstrate how the thinking of the particular organisation is applied in real life situations, and can also provide a valuable indication of how successful the organisation has been in delivering on the mandates it runs.

Returns are clearly not all of the story here.  A feature of the Australian investing landscape, given the extraordinary economic run of success we have had, is that risk is not often mentioned, and yet returns are put on a pedestal.  Being fixed income specialists, return of capital, and therefore managing risk, is at the forefront of everything we do.

Managing risk is hugely important, as any professional fund manager will tell you that avoiding the downside is more important than being the best on the upside.  After all, a 50% loss requires a 100% gain to bring you back to an even keel.  Not losing capital helps compounding much more than a great recovery.

The long term performance of bonds during this expansion might surprise you:

Vanguard shows the returns of Australian shares, bonds and cash over the last 30 years (to 28 February 2020), with shares only outperforming bonds by 1%p.a., for a lot more risk and volatility.

Graph 1 for sample ports 290420
The higher volatility of the share market, and the lower returns of cash, show that bonds should occupy a central position in investment portfolios, and yet the ATO tells us that they make up just 1% of SMSF portfolios, while cash and term deposits make up approximately 26%.

The above shows the whole of the bond market, which is a majority of government, state and territory issuers.

Our current sample portfolios, which can be found here, show how we apply our expertise to the opportunities available in the market, and don’t just blindly accept the market return.

We also look very carefully at risk, and so we have developed three portfolios, which have different risk characteristics.  These can be broadly summarised as:

Low risk, all AUD investment grade bonds. This portfolio has a higher allocation to each individual bond due to the relative credit strength offered by investment grade rated issuers.
Current yield to maturity1 3.95%, but could be expected to be in the range of 3.70% to 4.15% depending on pricing at the time of execution.

Low to medium risk, all AUD bonds, with a mixture of rated investment grade, sub investment grade and unrated1 bonds, providing a mainly lower risk investment grade profile with a smaller individual allocation to higher yielding bonds to slightly increase the credit risk being taken and therefore also the yield. 
Current yield to maturity1 4.86%, but could be expected to be in the range of 4.60% to 5.1% depending on pricing at the time of execution.

High Yield
Medium to higher risk, mainly sub investment grade/unrated bonds (59.8%) and selected investment grade bonds (40.2%), with a mixture of AUD (35.3%) and USD (64.7%)
Current yield to maturity1 9.09%, but could be expected to be in the range of 8.60% to 9.50% depending on pricing at the time of execution.

This portfolio contains two “discos”, or deep discount securities. These are investment grade rated subordinated bonds issued in the mid-1980s by the major banks.

They have a possibility of being called for regulatory reasons in early 2022, and if this eventuates, the yield above for the portfolio would increase to 11.40% if both discos were called at their earliest date.

Unlike fund managers, we show every holding in the portfolio.  This transparency is a key attribute of owning bonds directly rather than through a fund structure.  This enables investors to have a clear sight into the risk being taken in the portfolios, through credit, interest rate and currency risks.

All parts of the market are considered, not excluding anything simply because it doesn’t fit a mandate.  For example, the high yield portfolio contains approx. 40% investment grade bonds (which would be traditionally excluded from most high yield mandates), as we believe there is opportunity there in rotating capital through new issues that come to market, as well as benefitting from taking high grade, longer duration bonds when interest rates are falling as they are now.

These sample portfolios are available for intermediaries such as financial planners or direct investors to consider and invest in.  Instructions are required at each trade as this is not a managed solution.  For information on our managed product, MIPS, please see here

1 Note – unrated simply means the issuer chose not to pursue a rating at issue. It does not mean they applied for a rating and were unsuccessful. Typically this occurs when the expected investors in the bond do not require a rating to comply with a mandate.