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Stick with short duration bonds

High yields are available in oversold, short-dated credit assets, argues Eoin Walsh, portfolio manager at Twenty Four Asset Management.
Eoin Walsh, TwentyFour Asset Managment
Eoin Walsh, Twenty Four Asset Management

“If investors want to be sure of their returns in 2019 they need their bonds to mature that year, taking out market volatility, meaning the yield becomes the total return for the period,” said Walsh, portfolio manager of the firm’s Strategic Income Fund, speaking at a recent Hong Kong media briefing.

Significant bond mutual fund outflows in the fourth quarter of last year prompted many mangers to sell their most liquid positions, which were typically short-dated. Investors will face reinvestment risk, but they can take advantage of cheap valuations for credit by locking in high yields for the short term.

Federal Reserve chairman Jerome Powell spooked markets with his hawkish interest rate comments at the end of the third quarter, sending most asset classes into rapid decline. After achieving positive returns for most of the year, high yield indices denominated in dollars, euros and sterling fell 4.67%, 3.59% and 3.32% respectively, according to Twenty Four Asset Management (a London-based subsidiary of Vontobel Asset Management) and ICE Indices data.

Although Walsh doesn’t expect a US recession this year, he believes the credit cycle is entering its final stage and there is the possibility of policy error by the Federal Reserve, despite Powell’s emollient comments at the start of January.

In addition, geopolitical turbulence might also induce a market sell-off, despite solid economic fundamentals. Hence, “not only can investors benefit from the high yields available in over-sold, short-dated credit assets, but they will be protected from sharp price fluctuations as the bonds near to redemption,” said Walsh.

On the other hand, government bond holdings should have longer duration than credit assets, he said. Walsh favours US treasuries for safety and Australian government bonds because he believes yields have plateaued, and he has a combined 25% allocation to the two markets.

Walsh also likes recovering emerging market economies, and highlighted Brazil, Mexico and Chile in addition to Eastern and Central Europe.

“We’re also starting to look at emerging Asia credits since the spread widening at the end of last year,” he said.

The $1.46bn fund has a 2.5 year credit spread duration with an average credit rating of BB, and has a dollar yield of about 7%.

The Strategic Income Fund vs its benchmark over three years

Source: FE. Converted to US dollars for comparison purposes. The fund is marketed to global institutional investors and private banks in Hong Kong and Singapore. It is not SFC-registered.

Part of the Mark Allen Group.