Navigating the crisis with global credit
In today’s bond markets, a dynamic, global approach is essential to picking best-in-class credit opportunities. That’s the view of Insight Investment’s¹ Global Credit manager Peter Bentley and EMEA head of distribution Andrew Stephens. And it’s a view that has stood the team in good stead during the Covid-19 crisis, with the BNY Mellon Global Credit Fund delivering top-quartile performance in the first half of a turbulent year.
In the credit markets, the key thing about the Covid crisis was the unprecedented speed at which it struck – with markets moving even faster than during the global financial crisis (GFC). Credit spreads moved rapidly from relatively tight levels at the start of the year to their widest point since the depths of the GFC – and then retraced about three-quarters of that move in just a couple of months.
The BNY Mellon Global Credit Fund is coming through the biggest crisis for over a decade in remarkably good shape, the team says. For the year to date, the fund is in the first quartile of its peer group and comfortably ahead of its benchmark, the Bloomberg Barclays Global Aggregate Credit TR USD Hedged Index. The fund has also delivered benchmark-beating, first-quartile performance over one, three and five years.²
The team credits this performance to its dynamic approach and disciplined investment process. They apply four layers to their decision-making. First, they take an overall view as to whether to take a ‘risk-on’ or ‘risk-off’ stance. Once that is determined, they decide on allocations to sub-sectors of the credit market – assessing areas such as including sovereign and investment-grade bonds, credit-default swaps (CDSs), asset-backed securities (ABSs) and emerging-market (EM) bonds. The third step is to make allocations decisions between industry sectors. And finally, they assess individual credit issuers and invest accordingly.
“We came into the year a bit long credit beta compared with the market, indices” says Peter Bentley, Insight’s Head of Global Credit. “But we soon reduced this to just about flat with the benchmark as valuations weren’t offering much scope for further upside and were beginning to look a bit expensive.”
That reduction in credit risk proved very helpful. “Like everyone else, we didn’t see the full severity of the pandemic’s effects coming,” Bentley says. “But because we’d reduced exposure on valuation grounds, we were left with the ability to start adding risk again as credit spreads widened.”
Initially, the team added exposure through CDSs to get some quick exposure to credit-market beta. “Then, as we approached the peak of the crisis, we saw some fairly defensive companies starting to issue bonds at quite wide spreads”, Bentley says, “so we rotated some of that CDS position into cash bonds, with a particular focus on long-maturity bonds in the US, where there was a lot of attractive issuance. And then, as spreads came in again, we reduced this exposure so that we now have only a small long in credit beta.”
Clearly, the economy and financial markets have had to face an unprecedented shock from the Covid-19 outbreak. But the policy response has been huge. Direct or indirect monetary expansion has financed large fiscal deficits, and so the team expects yields to stay low – and yield curves flat – for a considerable time.
“At the moment,” Bentley says, “We’re in a no-man’s land between credit offering good value and being expensive. On the one hand, we’ve got the risks of renewed lockdowns, a prolonged crisis in the absence of a vaccine, weaker economic growth hitting corporate earnings and a rising risk of defaults. On the other, we’ve got some attractive valuations, easy monetary policy and an unprecedented fiscal response.”
Given this balance, the team prefers to own segments of the market that are the least exposed to rising defaults, are being actively supported by central-bank measures and are in jurisdictions where government spending plans are less reliant on foreign flows.
“We’re modestly positive overall because of valuations,” Bentley says. “On balance, bonds are slightly cheap – but spreads have come back a long way from where they were. We could start to see real value again, though, so we will be watching carefully and will shift our regional bias as relative value emerges.”
In the team’s layered approach, they are modestly long risk. By sub-sectors, they are still modestly long in investment-grade cash bonds, but have rotated partially into senior ABSs and select EM sovereign bonds. The fund is currently short in CDSs. At the sector level, the team were long in energy, where real value emerged at the height of the crisis, but have been rotating into select areas in aerospace and real estate investment trusts (REITs) where there are opportunities to acquire good assets among overall sectors that are under significant pressure. At the individual credit sector, favoured holdings include some major manufactures, major airlines, what they believe to be the strongest lease companies, and best-placed property companies, including Australian and diversified European REITs.
The key, Bentley says, is to be dynamic and have a process that allows you to go where there’s value. “The most important thing,” he says, “is that managers have the remit and conviction to pick best-in-class securities around the globe and manage the risks around those.”
¹Investment Managers are appointed by BNY Mellon Investment Management EMEA Limited (BNYMIM EMEA), BNY Mellon Fund Management (Luxembourg) S.A. (BNY MFML) or affiliated fund operating companies to undertake portfolio management activities in relation to contracts for products and services entered into by clients with BNYMIM EMEA, BNY MFML or the BNY Mellon funds.
²Source: LIPPER, Fund performance is calculated as Total Return,including ongoing charge, but excluding initial charge, net of performance fees (where applicable), income reinvested gross of tax, expressed in share class currency. The impact of the initial charge which may be up to 5% can be material on the performance of your investment. BNY Mellon Global Credit W USD Acc as at 30 June 2020.
Disclosure: Past performance is not a guide to future performance.
The value of investments can fall. Investors may not get back the amount invested.
Objective/Performance Risk: There is no guarantee that the Fund will achieve its objectives.
Currency Risk: This Fund invests in international markets which means it is exposed to changes in currency rates which could affect the value of the Fund.
Derivatives Risk: Derivatives are highly sensitive to changes in the value of the asset from which their value is derived. A small movement in the value of the underlying asset can cause a large movement in the value of the derivative. This can increase the sizes of losses and gains, causing the value of your investment to fluctuate. When using derivatives,the Fund can lose significantly more than the amount it has invested in derivatives.
Changes in Interest Rates & Inflation Risk: Investments in bonds/ money market securities are affected by interest rates and inflation trends which may negatively affect the value of the Fund.
Credit Ratings and Unrated Securities Risk: Bonds with a low credit rating or unrated bonds have a greater risk of default. These investments may negatively affect the value of the Fund. – Credit Risk: The issuer of a security held by the Fund may not pay income or repay capital to the Fund when due.
Emerging Markets Risk: Emerging Markets have additional risks due to less-developed market practices.
80112, 11 Oct 2020