HEAD-TO-HEAD: Aviva vs GAM

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The Aviva fund invests in convertible debt issues globally. In the most common case, a convertible bond can be converted into stock of the same company, at a pre-determined price. It thus can be considered a hybrid of debt (it pays interest and carries a maturity date) and equity, since the conversion feature allows the holder to benefit from the rise in price of the company’s stock.

While the Aviva fund specializes in this niche asset class, it adopts a range of strategies. Around half of the portfolio, between 40% and 60%, generates yield from short-dated, high quality convertibles. It is akin to a traditional bond portfolio.

In addition to that, between 30% and 50% of the portfolio is used for convertible arbitrage, a strategy more commonly employed by hedge funds.

Convertible arbitrage involves buying convertible securities and at the same time short-selling the same company’s stock.

If the stock price falls, the value of the short position increases, and the value of the convertible position declines, albeit more slowly, supported by its fixed-income aspect.

If the stock price rises, the losses of the short position are offset by the gains on the convertible, which on the upside are more in-line with equity prices. Convertible arbitrage aims to exploit this asymmetry.

“Convertible arbitrage was very popular in the early days of hedge funds, in 2003 to 2008,” Douali said. “They tended to be highly leveraged and suffered a big drawdown in 2008.” After the crisis, in 2009, only a few of them bounced back, leaving the space quite uncontested.

“Today’s arbitragers are able to capitalise on the fact that there are much fewer of them in the market right now,” Douali said.

While the Aviva fund resembles a hedge fund in the range of strategies it employs (it uses derivatives for hedging and to take tactical bets, for example on volatility) its level of risk is tempered by the long-only, yield-focused part of the portfolio, and a low degree of leverage, Douali said.

The fund targets a 4%-6% annualised return net of fees over a full market cycle, with volatility approximately one-third that of the equity market.

The GAM fund operates on a similar philosophy of “buying bonds and buying protection”, but instead of convertibles, it buys mostly plain bonds and uses credit default swaps (CDSs) to hedge the credit exposure, Douali explained.

The investable universe of the GAM fund includes government bonds, investment grade and high yield credit, emerging market bonds as well as securitised debt (asset-backed and mortgage-backed securities) and convertibles.

The fund aims to deliver a positive return of 2%-3% over cash (Libor) through different market cycles, with low volatility.

“It uses a top-down thematic approach, taking long and short positions in interest rates, credit and currency,” Douali said. The success of the fund hinges on the team’s ability “to identify fundamentally driven macro themes across different assets and regions,” he added.

The Aviva portfolio is much more concentrated, with around 80 long bond positions, while the GAM portfolio holds around 500 bonds, and around 700 derivative positions. Both funds invest globally.

“GAM tends to have a more macro approach, although they perform extensive credit research, while Aviva is more focused on micro fundamentals of issuers and the technical nuances of their market,” Douali said.

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