The volatility expected under a Trump presidency has been on show this month, with yields continuing to rise post the election result until the announcement of Scott Bessent as the nominee for Treasury Secretary triggered a rally which retraced about half of the previous month’s move higher in yields.
New issues have come to market thick and fast as well, with lots of issuers seemingly keen to complete their annual funding tasks now the election uncertainty is out of the way.
Credit spreads jumped wider in the last couple of days of the month as the street struggled to absorb a wave of incoming paper making room for all the new issuance. This has also retraced about half the move wider already.
Domestically we had an encouraging monthly CPI number which despite the increase in trimmed mean inflation showed a decline in a number of key items such as rent, which tends to trend once it starts moving.
With yields falling the new issue premiums on offer from the new bonds is valuable.
Conservative portfolio:
This portfolio is all investment grade and all AUD.
The current portfolio yields 5.71% and consists of ten bonds of roughly equal weight by value to total an approximate $500k spend.
As a reminder, the portfolio contains a government bond with a low yield. This is not expected to be held to maturity, but instead traded if and when yields fall. Therefore, the portfolio yield is understated compared to expectations given it is unlikely this low yield to maturity will be realised on these bonds.
Additionally, the inflation linked bonds have an assumed 2.5% inflation rate in their yields. With inflation having been high and now stubbornly refusing to come down, these bonds may also return more than currently forecast.
New issue premium was on our mind as QBE issued a 7 year floating rate note at a margin of 1.80% over 3M BBSW. Whilst this only picks up about 10bps compared to the BoQ bond we put in last month, constant small optimisations like this are how over time you increase yield but maintain credit quality.
Whilst we removed a BNP floating rate bond last month, this month they issued a fixed rate 7 year bond at a margin of 2.00% which priced at a yield of 6.198%. With the capital price of the other French bank BPCE reaching ~112 we decided to reduce the duration slightly for the bond closer to par and also improve the yield by 0.30%. When you can get a higher yield from a shorter bond without sacrificing ratings, this is usually a no brainer for a switch.
Qube priced their inaugural bond on Tuesday at an attractive coupon of 5.90% and also set under par. The QTC 2033 bond has a high coupon but also a high capital price, so for an almost identical income and a slightly longer maturity, we switched this out for the Qube.
The ratings are a lot different, moving from AA+ to BBB, but it looks as though the path of interest rates is likely to be flatter than imagined previously. We will keep the federal government bond in the portfolio for now in case this changes, but otherwise this seems a sensible balance to a credit exposure from a largely credit risk free one.
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 6.83% and is an approximate $610k spend.
This portfolio, by virtue of the high yielding allocation, has a much shorter duration than the Conservative.
We made the QTC to Qube switch as above, but the Balanced portfolio did not hold the BoQ or BPCE bonds.
The portfolio also held last month ~45% floating rate bonds. Whilst the rates picture may be elongated as we mention above, when the good value fixed rate bonds such as BNP are issued, we should take advantage of them. As such we switched out the floating rate Hollard bond for the new fixed rate BNP 2031c and picked up ~0.50% in yield.
There were no new high yield issues during the month, although as I write Pacific National is in the process of pricing a 5¼ year subordinated bond rated BB. We will likely include this in the portfolio next month when the details are finalised, as genuine corporate subordinated bonds are quite rare, and especially when they are rated below investment grade.
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 8.00% and is an approximate $525k spend, demonstrating the concept of greater diversity in higher risk positions.
With no high yield issuance in the month, the portfolio remained unchanged.
With a running yield of 8.82%, doing nothing (as long as you consider the options) is a good decision. As above we will likely include the new Pacific National bond once it issues.
To view and download our Sample Portfolios, please click here.