BlackRock Corporate Bond 1 to 10 Year Fund composition confusion

puk999

I'm currently investigating corporate bond funds and stumbled upon the BlackRock Corporate Bond 1 to 10 Year Fund. If you click the link, at time of writing you should see the largest holding as BARCLAYS BANK PLC RegS 14 12/31/2049 making up 3.1% of the fund.

Isn't this a bond with a 35-year maturity? What's it doing as the largest constituent of a 1 to 10 year bond fund? Hoping someone can clean up my confusion

Sobryma

Interesting as I hold that one in my pension.
It does look odd, because if you at the maturity profile for fund there is virtually nothing > 10 years (0.4%). Maybe there are derivatives hedging back or special terms on bond?

Masomnia

It's probably callable in the next ten years.

puk999

Masomnia wrote: »

It's probably callable in the next ten years.

Just Googled callable bond and assuming this is what you're referring to I'm still confused. Here's my understanding so hopefully you can clear up my most recent confusion. This is my understanding of the situation:

A callable bond gives the issuer of the bond the right to recall (i.e. pay off and cancel the debt of) the bond at future call date(s). They would only logically do this if interest rates fall and the company can refinance at a better rate. In the current low interest rate environment rates can only rise. Rising rates will mean bond holders (including me if I bought into this fund) will be getting a lower rate of interest than we could for new bond issuances. This makes the bond less desirable and the price must fall accordingly triggering losses for the bond fund.

kidmugsy

puk999 wrote: »

A callable bond gives the issuer of the bond the right to recall (i.e. pay off and cancel the debt of) the bond at future call date(s). They would only logically do this if interest rates fall and the company can refinance at a better rate.

So from the point of view of the company the question is whether the new interest rates are lower than the ones it pays on the face value of the bonds. It doesn't care what the yield is to the present holder, who may well have paid more than par for them.


For example: suppose a company issues bonds paying 15% p.a. So for each £100 of face value it pays out £15 p.a. After ten years interest rates have fallen to, say, 5% p.a. So it calls the bonds at face value, saves the £15 p.a., and issues new bonds paying 5% p.a.

bowlhead99

So if you were an investor buying a Barclays 14% bond now, you can buy it for £136 and get a yield of bit more than 10% of your purchase price when it pays you out the £14 every year.

However, presuming they choose to call it in, in summer 2019, you won't get the 136 back. You'll just get 100 back plus your 14 every year along the way. Overall that's more than the 136 you paid, but the effective overall yield is pretty low - less than the current 10% implied and a lot less than the 14% headline rate.

But what it pays you is probably a reasonable rate for the risk you're taking on a piece of the few £billion debt that's subordinated to more important creditors but gets paid ahead of equity holders, and is something that Barclays would very much like to buy back in 2019 when their choice is to call it in or keep paying Libor plus 13 on it (or whatever the rate becomes at that time, see actual prospectus for details etc etc).

If the market assumes a bond will be called in on a date 5 years from now, it can sit in a bucket with other bonds that mature in 5 years from now. Blackrock clearly don't see it as a perpetual bond that will run to 2049.

puk999

OK I believe I get it now. So 14% is a massive amount which Barclays will almost definitely move away from unless interest rates are sky high on the call date?

I was initially surprised they'd want to issue any bonds at 14%. Pondering further, the long date covers them for the situation that rates rise heavily and then 14% might be considered a great rate. If instead they stuck to bonds with short maturities then they'd be subject to the full force of the rate rises.

Thanks to all who responded.

bigadaj

puk999 wrote: »

OK I believe I get it now. So 14% is a massive amount which Barclays will almost definitely move away from unless interest rates are sky high on the call date?

I was initially surprised they'd want to issue any bonds at 14%. Pondering further, the long date covers them for the situation that rates rise heavily and then 14% might be considered a great rate. If instead they stuck to bonds with short maturities then they'd be subject to the full force of the rate rises.

Thanks to all who responded.

I'm not sure when those Barclays bonds were issued but at that rate it sounds around the time of the gfc. Remember at that time Barclays looked as though they might go bust before the middle eastern money was arranged, similar to lloyds and rbs, though each for slightly different reasons. People have made good money out of bank debt and preference shares and the like but at not insignificant levels of risk at being wiped out. It could of course be argued that more pain might have been a purer free market way of managing the gfc and the issues that led up to it, though of course with consequences. And we've now got the middle eastern financing being examined in more detail many years later, though these investigations are rarely taken to the full extent of criminal trial and custodial sentences of course.

Masomnia

puk999 wrote: »

OK I believe I get it now. So 14% is a massive amount which Barclays will almost definitely move away from unless interest rates are sky high on the call date?

I was initially surprised they'd want to issue any bonds at 14%. Pondering further, the long date covers them for the situation that rates rise heavily and then 14% might be considered a great rate. If instead they stuck to bonds with short maturities then they'd be subject to the full force of the rate rises.

Thanks to all who responded.

That's exactly the benefit of the long dates yep, the long term certainty. Another reason why the interest rate will have been higher, as investors will want a premium.