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Demand grows for MAC funds as diversification proves a boon for returns.
Multi-asset credit (MAC) strategies enable investors to take advantage of opportunities throughout varying global credit cycles, increasing exposure to diversified sources of income and producing an attractive risk-adjusted return. As we head into the late cycle in an otherwise low-yield environment, investors need to position these strategies in higher quality, more liquid investments to ensure they can take advantage of both short term and long-term opportunities that the market may present if the economies slow or enter into recession.
This is the view of Kevin Kearns, Portfolio Manager at Loomis, Sayles & Company, who says multi-asset credit (MAC) is intended to capture global credit risk premiums via a range of geographies, asset classes and credit instruments.
“Diversification is the key,” Kearns says. “You gain diversification not only by geography, but by industry and sector as well. Diversification works well, because you can find returns across sectors and asset classes, whether it is in high-yield, global credit, bank loans or emerging markets.”
The Loomis Sayles MAC strategy aims to generate returns in three principal ways. First is to invest in accordance to the fund manager’s theory of credit cycles, which it divides into four parts – downturn, credit repair, recovery and expansion. The second applies bottom-up global security selection to find the best individual credits for investment. The third way to generate alpha is to take advantage of market inefficiencies, Kearns says.
To take advantage of potential opportunities and manage risk, Kearns notes it is important to analyse where countries and markets are in their credit cycle.
“Many think you go from the downturn directly to recovery,” Kearns says. “We think you first go to a step called credit repair. In a downturn, companies are over levered – they get into trouble, they’re selling assets, laying off employees, anything to bring leverage down while the market’s credit risk premiums are increasing dramatically. In the credit repair part of the cycle, I think of it as, ‘Who has control of the balance sheet? Bondholders or equity holders? At this point, bondholders do, so you have high credit risk premia and conservative company balance sheet management.”
“During the recovery cycle, the balance of control is split between shareholders and debt holders. An expansion is where the equity holders have control, and that’s when you have activities like M&A, loosened underwriting standards and more leverage put on balance sheets.”
The primary risk management tool is understanding the upside and downside of every single credit: the balance sheet and what market and risk factors are driving the value of each company. The team aims to estimate the upside and downside of each specific bond by looking at the quality of management as well as security specifics such as collateral and call dates.
Finally, overall portfolio risk management is critical. Within the threelayered approach to understand, manage and measure downside risk the team has a variety of risk management tools at their disposal. This includes hedging, which can be used to further preserve capital.
“Last November and December, we implemented hedges in duration and direct credit,” Kearns says. “We felt there was a significant growth slowdown. In the high yield market, if the market believes that GDP is going to dip below 1.5 per cent, that’s typically highly correlated with an increase in the default rate, which is directly correlated to spreads. We’re able to hedge that exposure and build it into the base strategy. As markets got oversold in December versus fair value, we were able to reduce the hedges and then take advantage of the increase in risk premia. We have a lot of customisation for clients, and clients can really change any of the guidelines to be more defensive [or] more risky. It depends on how they want a particular product to integrate into their portfolio.”
MAC strategies can be classified into three types: short duration or high-quality MAC; moderate duration/moderate volatility that includes a combination of investment grade and high yield risk; and more aggressive strategies that focus on holding principally high-yield risk securities, Kearns explains. Loomis Sayles will be launching an opportunistic MAC-strategy fund in Australia this month, which falls into the modest duration/moderate volatility classification, Kearns says.
“We’re giving investors the opportunity to act quickly, offensively and defensively, through this strategy,” he says. “What we’ve been hearing in the market is a call for a multi-asset product that acts as a one-stop shop. It means clients don’t have to make an individual investment in high-yield or medium-yield or highgrade securities, they’ve outsourced that decision to the manager, which enables the manager to take advantage of opportunities or manage risk. Some of the institutions say that by the time there are actors on an opportunity, it’s too late. That’s the attraction. Institutions that may not have the resources in place, this is a great solution for them.”
Kearns will be traveling to Australia this month to speak to investors about the Loomis Sayles approach to MAC strategies.