As the outlook for economic growth becomes more uncertain and markets more volatile, fund managers say there are still plenty of opportunities to make money in credit.
Darren Toner, portfolio manager, credit multi asset and global high yield at CQS said while economic conditions were weakening, there were parts of the market that do not depend on high levels of growth and still offer long-term investment opportunities. He said fears of an economic slowdown has led to huge dispersion in valuations and performance which offers an opportunity for fundamentally-based active investment managers.
“We are seeing increased levels of volatility in the short term, driven by the US-China trade war and central bank policies, as well as by the growth of daily liquidity instruments like EFTs in areas that used to be dominated by pensions funds and banks,” he told delegates at Investment Magazine’s Absolute Return Conference in Sydney,
Toner said a combination of forced sellers redeeming units in ETFs, and the increasing number of macro hedge funds playing in the credit space, has changed the technical dynamics. He also said that changing consumer behaviour and new technologies were driving profound secular change across a wide range of sectors and industries. “The result is increased dispersion of investment returns including pockets of potential defaults.”
Toner said bottom-up analysis was key if asset managers want to lend to the right companies in a volatile business environment, mitigate defaults and realised losses as well as exploit tactical opportunities in unloved investments.
As part of a panel discussion, the portfolio manager said credit investors faced a new hurdle – low levels of income with heightened sensitivity to short-term interest rate moves as a result of the fall in government bond yields. “While this is mostly seen in Europe and Japan, where rates are negative, expectations of interest-rate cuts by the US Federal Reserve have also resulted in substantially lower yields in parts of the US credit market.”
Currently, US$15 trillion of outstanding bonds trade at negative interest rates. “This has been exacerbated by the influence of central bank asset purchase programs and the growth of passive credit strategies, algorithm strategies and the influence of currency hedging for global asset managers.”
Even so, Toner said it is still possible to find good quality companies in the UK, in lagging sectors in the US, and amongst European banks through fundamental research.
Dan Robinson, chief investment officer at CIFC Asset Management, agreed on the importance of detailed analysis to understand the risks during an economic slowdown. The CIO said he employed larger and longer underwriting processes to determine whether particular credit instrument are investable. “If your dashboard is well set, a systematic approach can work well,’ he said.
Robinson says the search for yield has led to more interest in private lending and consequently more capacity for owners to sacrifice liquidity for income. He believes there are good opportunities in private credit but feels that some assets might be deeply vulnerable and over-invested. As a general view he thinks negative yielding bonds were here to stay and the amount of AAA assets is tightening, but he also said currency arbitrage with certain managers adds another ‘dimension”.
Linda Gründken, senior scientist at GAM Systematic Cantab agreed that negative yielding bonds were likely to remain but concluded that even with the drop in yield bonds still have same properties. “We still see price movement in negative yielding bonds so in certain ways nothing has changed,” she said.