July is usually a quieter month in the bond markets as domestic companies enter blackout periods prior to annual results being released and the northern hemisphere starts thinking about summer holidays.
Markets were relatively quiet, with yields declining a few basis points over the month, although there was some volatility towards the end as the US signed trade deals with the EU and Japan. Both look at first glance very favourable to the US, and yields fell as the uncertainty around these two large trading partners is now reduced with the announcements.
This year was no different to last as the high level of primary issuance calmed from prior months’ levels.
Two new bonds were issued, both at attractive levels. Port of Newcastle issued an 8-year fixed rate bond at 6.10% and NAB was the first bank to jump, issuing the standard 10-year callable subordinated fixed rate bond structure at a yield of 5.774%.
Conservative portfolio:
This portfolio is all investment grade and all AUD.
The current portfolio yields 5.41% and consists of ten bonds of roughly equal weight by value to total an approximate $500k spend.
The new Port of Newcastle bond was cheap when issued and has since rallied. However, it still offers value vs the similar maturity Transgrid 2033c and Qube 2034 bonds. As a senior bond rated BBB, we chose to switch out the Transgrid, as although it is a utility and we like that sector, we can get more yield for a more highly ranked, higher rating and same tenor in the PoN.
For 10-year bank bonds, the new NAB offers a higher yield than the existing Macquarie 2035c. Again, for a higher rating and the same tenor, we can increase yield, so we made that switch.
The long-time favourite RMBS bond, the Triton 2022-4 D is now approaching its expected redemption date in December, and as such is yielding little. We have some small supply in the Grow 2023-1 D note so have included that for this month, which restores the yield.
There were no new good value floating rate bonds issued in the month, so we keep what we have, despite credit spreads continuing their inexorable tightening.
There are several changes this month, but this shows the value of trading bonds in and out when they get expensive and replacing them with cheaper ones. This takes profits and maintains yield vs simply holding to maturity, which enhances portfolio returns over time.
Balanced portfolio:
The Balanced portfolio adds higher yielding bonds to the base Conservative portfolio to achieve a higher yield, while maintaining a balance between risk and return, skewed towards preserving capital rather than chasing yield.
It aims to have between 15-20 positions, with the high yielding bonds in smaller parcel sizes (comprising 27% of the total portfolio) to reflect their riskier nature.
The current portfolio has 16 bonds, yields 6.03% and is an approximate $625k spend.
This portfolio, by virtue of the high yielding allocation, has a much shorter duration than the Conservative.
We made the changes as above in this portfolio.
The Pepper Money floating rate note is very short now and is not value. Emeco, which has been in and out of the portfolio, even though it has a similar maturity to the Pepper Money, looks cheap again with the added bonus of potentially being able to roll over to a new bond should Emeco refinance in the near future. We therefore swap this in for the Pepper Money.
We remind investors that even though headline yields for the last financial year remained in the low 6% area, most portfolios returned significantly more than this, with the average FIIG client returning over 9%.
Rotating capital makes a difference to actual vs headline returns.
We are happy collecting the 6.6% running yield while we wait for further opportunities.
High-Yield portfolio:
The High Yield portfolio looks to generate a higher yield while still looking to have a bias towards as low risk positions as possible.
This is achieved by good diversification and attempting to identify fundamentally mispriced bonds.
The current portfolio has 17 bonds, yields 6.87% and is an approximate $500k spend, demonstrating the concept of greater diversity in higher risk positions.
We make the Pepper Money for Emeco switch as above.
We have also recently introduced new bonds from the NatWest Group, a well-known UK-based banking group. They have bonds in GBP and USD.
Given the paucity of new high yield bonds available and the low yields on the NCIG and ING USD bonds, we switch these two NatWest bonds in, albeit at lower face values to limit the exposure. The GBP bond is actually rated Baa3 by Mody’s which is investment grade, but given the yield pick up to ING we include it for the yield of nearly 7%.
We will monitor the credit as we are overexposed to this one issuer with two bonds in the portfolio, but a large banking group is usually a good credit risk.
The Heartland BBSW+3.70% 2029c is yielding below 6% currently, which would usually result in its removal from the portfolio. However, with the high running yield of 6.88% and no new AUD high yield bonds to replace it with, we are happy to keep receiving the income while we wait for a substitute.
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