Last year was an incredibly tough one for all asset classes and fixed income was no exception as bonds sold off like equities during a bad year.
US Treasuries and German bonds lost 17% and 25% respectively in US dollar terms last year as the US Federal Reserve hiked interest rates seven times in a bid to stave off inflation.
As most investors believe that we are now close to the Fed terminal rate, many are reengaging with fixed income once more, pointing to the compelling valuations and also strong credit metrics of issuers.
Investment grade is very much the consensus among asset managers at the moment, although an increasing number are also touting the prospects of high yield, pointing to the fact that interest coverage ratios, particularly among US issuers, are among the strongest they have ever been.
Today’s issuers are generally in better shape financially than issuers during previous recessions, in part because the corporate market went through a default cycle only two years ago when Covid-19 hit and the surviving companies used to the opportunity to refinance, extending their maturities.
Against this backdrop, Isaac Poole, chief investment officer at Oreana Financial Services, picked the BNY Mellon Global Bond fund and the Franklin Templeton Global Bond fund for comparison for this week’s head-to-head.
|BNY Mellon||Franklin Templeton|
|Managers||Jon Day||Michael Hasenstab, Calvin Ho|
|Three-year cumulative return||-4.94%||-2.22%|
|Three-year annualised return||-4.70%||-2.09%|
|Three-year annualised alpha||-2.45||-0.49|
|Three-year annualised volatility||7.03||6.41|
|Three-year information ratio||-0.80||-0.07|
|Morningstar star rating||n/a||n/a|
|Morningstar analyst rating||Neutral||Neutral|
|FE Crown fund rating||***||**|
|OCF (retail share class)||1.14%||1.38%|
The BNY Mellon strategy targets G10 sovereign debt against the benchmark JP Morgan Global Government Bond index. Duration and yield curve are the key alpha generators, with country selection and currency allocation also contributing, Poole noted.
The strategy aims to identify structural changes or drivers of change that could impact sovereign bond returns, with a focus on fundamental drivers. The fund does not invest in corporate credit but can get extra carry and yield from the semi-government/supranationals and emerging market debt that can also make up part of the portfolio.
Duration and yield curve are intended to make up most of the return. The fund has been able to use floating-rate bonds to hedge against inflation and has been quite active in managing duration relative to the global benchmark.
Meanwhile, the Franklin Templeton strategy uses a high conviction approach to build exposures to sovereign, rates and currency to generate value through the long term. A strong country and currency research capability underpins the ability to focus on improving or strong fundamentals that are underpriced by the market, Poole notes.
Currency exposures are managed by considering fundamentals including interest rates, balance of payments, inflation and policy settings. The foreign exchange views can result in material mismatch with the JP Morgan Global Government Bond Index benchmark, representing a significant part of the fund’s risk budget.
There has historically been a significant exposure to emerging markets and currency positions are used to help mitigate some of the risk from those exposures. The fund can also take short positions and meaningfully move away from the benchmark duration.
“Both funds have a clear, repeatable process that is reflected in their respective portfolios. The BNY fund has a clear focus on government bonds that could be a challenge relative to peers during periods of significant credit outperformance,” said Poole.
“But the government bond focus lends itself to a defensive position in the portfolio. The Templeton fund represents a higher conviction strategy that can result in more volatility at times. Both funds can invest in EM and do so to add to excess returns.”
|BNY Mellon||Weighting||Franklin Templeton||Weighting|
|Cash & Cash Equivalents||5.37%|
The BNY Mellon fund’s lack of exposure to credit has been both costly and beneficial, Poole notes.
“When credit rips, this fund can struggle to keep pace. But over the past few years, the 2020-Covid related credit sell-off and the 2022 Russian invasion proved to be periods where the focus on sovereign debt was a boost to relative performance,” he said.
More recently, the sell-off in government bonds last year was a difficult period for the fund, although this was somewhat offset by it moving underweight duration relative to its benchmark.
The fund has historically delivered relatively low volatility relative to peers, reflecting its defensive nature.
Meanwhile, the Franklin Templeton fund is far more volatile due to its willingness to take high conviction positions with a focus on the long term.
Its recent performance has been a bit disappointing, Poole notes, due to its short position on US Treasuries in 2020 and subsequent Latin American exposure, which did not rebound as quickly as other local debt. But underweight developed market duration through 2022 helped it outperform, albeit it still generated a negative return.
The BNY Mellon fund has an ongoing charge figure of 1.14%, while the Franklin Templeton fund charges 1.38%
Discrete calendar year performance
The BNY Mellon fund was run by the aptly-named Paul Brain since 2008 before handing the lead manager role across to Jon Day, who has been with the fixed income team since 2002.
Day increasingly had been taking the lead on this strategy for several years so the handover was well managed, Poole noted.
Day is able to draw from an 11-member fixed income team that has been quite stable and has a clear process and philosophy.
Meanwhile, the Franklin Templeton fund is led by Michael Hasenstab, who has been with the firm since 1995, while Calvin Ho became co-manager in 2018.
The duo are supported by five macro analysts in what is a stable team with a depth of emerging and developed market capability as well as strong macro-fundamental capability.
“Both strategies have strong teams, with good experience, long tenure and portfolio managers that clearly understand and follow their investment philosophies and processes. The history is important given the volatility in bonds recently, the challenges faced with inflation, policy rate uncertainty and growth so both of these managers have a strong team of skilled managers to navigate,” said Poole.
Morningstar gives both funds an analyst rating of neutral, while FE fundinfo gives the BNY Mellon fund three stars and the Franklin Templeton fund two stars.
Overall, Poole sees the two funds as playing a different role within a portfolio.
“The BNY fund is more a traditional defensive sleeve within fixed income, focusing on government bonds with some EM and supras to add yield. It has historically had low volatility and, 2022 notwithstanding, lived up to its defensive nature,” he said.
“The Templeton fund is more dynamic and complex, with multiple levers to pull in investing its high conviction views. This has resulted in a higher historical volatility but also has produced some big, lumpy gains at times that support its long-term track record.”
“While both funds have similarities, we think they belong in different parts of the fixed income sleeve within a multi asset, multi manager portfolio.”