Bonds - still so confusing...

Alexland

+1 for the M&G Optimal Income fund. It's expensive but with the increased risks currently facing bonds it could be worth having some serious experience on you side. As you identified this is a lot harder than investing in stocks. I am a fan of M&G and think they are under-recommended in these forums. You can get it in the M&G ISA wrapper for no extra cost.

chiang_mai

I don't know if there's any such thing as a hands-off approach to managing the bond element of an investment portfolio, other than perhaps buying managed Mixed Asset funds whereby the investor chooses the percentages and leaves management to the fund manager. Apart from that and in binary terms, you either hold bonds or you don't, if you hold them you have to choose them, monitor them and be prepared to react as conditions change, just as you do with equties. When it comes to choosing them: it's been said by others that current conditions favour high yield bonds, my experience favours short-term durations and high creditworthiness. You seem to believe that your current bond holdings mix is not right and you have ideas how to adjust it. But then you're looking for a mechanism to take over all future decision making relative to those bonds and I have no answer for that and I'm not sure there is one, other than to treat them the same way you do equities through research, selection and monitoring and that doesn't appear to suit - sorry I can't be more helpful, maybe others have more ideas.

Audaxer

Alexland wrote: »

+1 for the M&G Optimal Income fund. It's expensive but with the increased risks currently facing bonds it could be worth having some serious experience on you side. As you identified this is a lot harder than investing in stocks. I am a fan of M&G and think they are under-recommended in these forums. You can get it in the M&G ISA wrapper for no extra cost.

That's good news as I recently purchased M&G Optimal Income fund as part of my income portfolio as it appeared to me to contain good quality bonds and the value didn't drop as much as some other similar funds in 2008.

aroominyork

Really helpful ColdIron and Alex. I hadn't realised the difference between corporate strategic and 'pure' strategic. I recently read about and bookmarked M&G Strategic Corporate Bond but now I realise it is more constrained than Optimal Income. And if, as you say ColdIron, if I want the manager to earn his money - despite balking at the comparative high fees in relation to return compared to equities - I should give him/her maximum flexibility, yes?

I would be interested in any other views on the view of focusing on equities and strategic bond funds and cutting out high yield bonds.

PS Optimal Income's top ten holdings are all German. What should I read into that please?
PPS Am flying to Tokyo tomorrow but will doubtless sneak away from my wife to continue this conversation as the mist is starting to clear.

Alexland

M&G Optimal Income's position is 126% long and 43% short on bonds (so there is something clever going on which is not immediately obvious) giving an overall 83%.

The fund is 60% Europe (inc 31% Eurozone and why not Germany) and 40% Americas and very heavy in consumer cyclical and heathcare sectors. I guess that's where the manager sees the opportunities.

Also the maturity distribution is very short, medium or long with not much between. I am not sure there is any advantage but maybe it makes it easier for the manager to operate or with historic churn they have bunched up a bit.

aroominyork

Alexland wrote: »

The fund is 60% Europe (inc 31% Eurozone and why not Germany) and 40% Americas and very heavy in consumer cyclical and heathcare sectors. I guess that's where the manager sees the opportunities.

It's basically German government issue and American corporates.

So what I am understanding is that the strategic funds (the ones that are not corporate strategic) let me invest my bond allocation in a fund that will adapt for me in the way I want, and if I want a small quasi-equity punt on something like GAM Star Credit Opportunities' subordinates approach I can add that on.

PS So comparing my ex-IFA's approach (which under-performed VLS, as I expect most do), he had equities for high risk, HYBs for medium and property for low. My semi-passive DIY would be equities for high and strategic bonds for the rest. Is that a sound approach?

ColdIron

Alexland wrote: »

M&G Optimal Income's position is 126% long and 43% short on bonds (so there is something clever going on which is not immediately obvious) giving an overall 83%.

These are the long and short positions, subtract one from the other and you get the net. Have a look for Asset Allocation in
http://quicktake.morningstar.com/DataDefs/FundPortfolio.html

chiang_mai

I'm in favour of any solution that meets the needs of the OP but be aware that the M&G Optimal Income fund is expensive with a 3% entry charge plus the FT rates the credit level as low whilst MS rates it as medium. That said the effective duration is very positive at only 1.98% and the maturity distribution looks very favourable, the fund managers track record, however, is not brilliant.

aroominyork

chiang_mai wrote: »

I'm in favour of any solution that meets the needs of the OP but be aware that the M&G Optimal Income fund is expensive with a 3% entry charge plus the FT rates the credit level as low whilst MS rates it as medium. That said the effective duration is very positive at only 1.98% and the maturity distribution looks very favourable, the fund managers track record, however, is not brilliant.

I don't quite see this. HL has no spread, and the manager is Alpha rated on Trustnet.

A word about FE ratings please. They seem to use volatility as a proxy for risk, so GAM Star Credit Opps, which I currently hold, has had a very smooth upward journey for some years which I assume explains its FE of 22. But surely it is more prone to downturn than Optimal Income, which is rated 28?

bowlhead99

aroominyork wrote: »

I don't quite see this. HL has no spread, and the manager is Alpha rated on Trustnet.

The published entry charge is archaic and would be discounted to zero with nearly all UK distributors / platforms - may be different if you are located in Asia and looking into UK products from afar.

The 'manager track record is not brilliant' may come from looking at the 3 years performance which shows it to be 'only' in line with the average of the rest of the sterling strategic bond sector (4.2% vs 4.1%). They have moved a little early to reduce duration and be defensive against interest rate rises and so have missed the opportunity to make higher returns which some of the top performing groups have made. Still, that's not a bad thing as you are paying for their judgement so you expect them to exercise it for a long term payoff not short term 'wins'.

If you look at the five year returns they are now close to 1% a year above the sector average but it's by looking at 10 year returns you will see that they have pretty much doubled the performance of some rival funds by only losing a much smaller amount in the 2007-2008 credit crunch and starting to recover from it faster. So, no real 'performance issues', it is a good fund and I am using it in my parents' ISAs. However, if they are positioning defensively and keeping duration short for lack of good opportunities at the moment you would not expect to see exciting returns.

A word about FE ratings please. They seem to use volatility as a proxy for risk, so GAM Star Credit Opps, which I currently hold, has had a very smooth upward journey for some years which I assume explains its FE of 22. But surely it is more prone to downturn than Optimal Income, which is rated 28?

The trustnet risk scores are derived from looking at the weekly volatility going back eighteen months to three years with a decay factor so that more recent events are given more weight than older ones.

As a scoring system they can be a handy ready-reckoner because they are relatively simple and intuitive to get your head around; they do give more weight to recent swings (which could help recognise recent market conditions); they are a relative measure (ie. FTSE100 at 100) rather than an absolute one; and they are not limited to one fund sector (i.e. you can compare a debt fund against a property fund or equities fund or absolute return fund).

However - covering just 3 years of data is going to ignore the fact that 9-10 years ago there was a global financial crisis in which M&G Optimal Income did well and a lot of its peers did not. And while you can see that a fund scoring 20-30 is currently much less volatile than one scoring 150-160, it is less useful for comparing one in the low 20s with one in the high 20s. The numbers are just saying that they are giving ballpark similar results with one a little lower than the other but it is not a forward-looking measure that tries to make a prediction about whether one will go up or down in a significant market event.

For example maybe you could have two funds that happened to get a '30' rating over a time period even though one was going up when the market went up and one was going down when the market was going up because they have opposite strategies but averaged out to the same score over the time period. Knowing something goes in a smooth line rather than a very jagged one does not tell you the direction of the line and if you don't know the reason for the next market swing you can't use a volatility score to predict how well you will fare.

...he had equities for high risk, HYBs for medium and property for low. My semi-passive DIY would be equities for high and strategic bonds for the rest. Is that a sound approach?

You say he 'had' HYBs for medium. But he is your ex-advisor not a current advisor of yours. Would he still have them for medium today or next year or forever? Maybe not because the IFA's job is to consider what asset classes will do the job in the context of the risk profile and the answer won't always be the same.

You mention he used property for low risk which is unusual given cash and short-dated gilts are clearly lower risk than property. But property can be lower risk than HYBs. So that part of his portfolio might be better described as 'lower' risk rather than 'low' risk while still aiming to hit your returns target. Still, the takeaway point is that he used property in the portfolio and most advisors would use property in a portfolio as it is a useful diversifier from equities and bonds - a different asset class with different returns in different market conditions. I use property in my portfolio too. No reason to shun an asset class unless you have a small portfolio where sticking 5-10% in that class doesn't make much absolute difference to outcomes.

Whereas, you are shunning property to focus on getting a strategic bond manager to handle all your 'non-equities' stuff. It's true that the two main components of most portfolios are equities and bonds which have very different return characteristics (albeit with a whole variety of sub-categories within each of the two classes). IMHO, no reason to ignore commercial property funds which provide rental income and potential for capital appreciation. Unless you are just working with a small portfolio and trying to simplify as far as possible. Though if that's the case (i.e. simplistic small portfolio) it might be more sensible to use a fund manager who would deploy your money across multiple asset classes rather than have one on the strategic equities side and one on the strategic bond side.