HEAD-TO-HEAD: China Merchants versus Penghua

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Investment approach

Both the Penghua Industrial Bond Fund and the CMF Industrial Bond Fund are “normal bond products”, which invest at least 80% of their assets in fixed income securities and are allowed to invest in convertibles, according to Wu.

They can also hold the equities created from their convertible holdings, but the total equity exposure (including convertibles which are considered as 50% equities in the classification) is capped at 10%.

Moreover, both products are mandated to invest at least 80% of their assets in “industrial bonds” (as also indicated from their fund names), but they have different definitions for the category.  The Penghua fund defines all bonds, excluding government and policy bank securities as industrial bonds, while the CMF fund further excludes “urban investment bond”, which are China’s equivalent of municipal bonds, and so it has a narrower investment universe.

The funds employ different investment approaches, according to Wu.

“The process of the Penghua fund begins with assessing the macro environment, which is then translated to beta allocation ideas among credit, rates, and convertibles,” she said.

From a risk-management perspective, the portfolio manager restricts exposure to convertibles at 20%, and the duration band typically ranges between one- and four-years.

“Next, the portfolio manager builds the portfolio by taking a bottom-up approach,” said Wu. The portfolio focuses primarily on corporate bonds, which are selected based on fundamental research, including sector spread analysis, term spread analysis, rating spread analysis, individual bond credit analysis, and liquidity analysis.

Turning to the CMF fund, she said that the manager’s approach “is a well-executed coupon-yield focused strategy looking for bonds with attractive coupon yields while maintaining moderate credit risks”.

“Sector rotation and individual security selection are the most important elements of the process, which both start with sorting the yields and selecting the highest sectors and individual securities, followed by thorough credit analysis on the issuances,” said Wu. The manger focuses on securities which offer yields of at least 50 basis points higher than sector averages.

In order to control credit risks, bond issuers suitable for the portfolio must have “sustainable profitability, positive free cash flows and good financing structures”.

Portfolio duration is “slightly more conservative” than comparable funds, and is typically less than three-and-a-half years. The manager is also cautious about investing in convertibles, with an historical weighting to the asset class of less than 5%, and they only invest in those convertibles with a positive yield to maturity — usually higher than 2%.

Both funds utilize a leverage strategy to enhanced returns with a range of 100% an 140%, according to Wu, and they share a tilt towards high-quality bonds. The CMF skews more heavily in AAA rated bonds with an exposure of 77% at the end of 2020 (this is the latest disclosed data), while the Penghua fund had an exposure of 50%, according to Wu.

“Both processes have been executed effectively and have delivered solid results so far,” she said.

Fund characteristics:

Sector allocation

Source: Morningstar, 30 June 2021.

Credit quality

*Not rated bonds: typically, government and policy bank bonds.

Source: Morningstar, 31 December 2020.

Top 5 holdings 

Source: Morningstar, 30 June 2021.

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