The Fed ordered a halt. After implementing a series of 14-month surprise rate hikes in 50 years, US central bank chief Jerome Powell announced on Wednesday that the money rate for now will remain in the range of 5% to 5.25%. In Frankfurt, the European Central Bank (ECB) set interest rates at 4% on Thursday. There may be one more climb, but most of the way is done. The good news for conservative investors is that sovereign and corporate debt offer very attractive returns. Directors have been talking about the best opportunity for 15 years. But the bond witches are not satisfied and want to go further. They want to get oil out of a very favorable market, to bury the disastrous 2022, which has caused huge losses in almost all fixed income funds.
Over the past year, banks have taken advantage of this rush to sell so-called fixed-income funds broadly to maturity and target yield funds. The procedure is very simple: a portfolio of sovereign debt securities from Spain and Italy, for example, is bought with a very specific duration, ranging from one to two years. This debt will pay coupon, say 2.6% per annum. What the manager does is deduct the commissions he will charge and market a fund in which the subscriber will get 2% if he waits until the end of the product term. For those who leave early there are penalties.
These portfolios have escalated in provided profitability: from 1.5%, to 2%, to 3%, and even up to 4%, for some packaged products whose basis is corporate debt. Customers are happy with these levels of profitability after years of zero rates and 2022 losses. But what many don’t know is that there is life outside of these types of funds.
Ignacio Victoriano, one of Spain’s top bond managers, is clear on this: “The great opportunity in fixed income is not in those packaged products, but in more active management.” This manager, who has been honored with multiple awards, explains that “in flexible fixed income vehicles, we can do many things, such as taking advantage of different periods, looking for opportunities in corporate debt issues, changing issuers… while funds to maturity are a corset.” Much more “.
They also took advantage of all this wave of debt issuance at higher rates to prime their investment portfolios, Victoriano recalls. “Now in traditional debt funds we have bonds with an internal rate of return of 6%, which means that the final investor can achieve a return of more than 5%,” the expert explains.
But convincing conservative clients is not easy. Last year they lost an average of 8% of the money they had in long-term fixed income funds. They are still licking their wounds and hoping to make up for some lost ground. “I understand this type of client that what they want is to buy a fund at maturity and avoid worries in the coming years,” Victoriano sums up.
Some financial advisors have been campaigning against maturity and return targets for some time. One of them is Victor Alvargonzalez, founder of Nextep. “I think it’s a big mistake to put all conservative money into these types of products, because ultimately your hands are tied,” he says. “Customers should realize that they have more competitive products at their disposal in every sense of the word and without having to take on more risks.”
Another benchmark in fixed income management in Spain is Eduardo Roque, from Bestinver. This specialist signed this freelance manager after a stellar career as a bond manager at Mutuactivos, the financial arm of Mutua Madrileña. Roque asserts that active management now has a great opportunity to add a lot of value.
A good example of this is what happened with the small banking crisis that occurred in March and April. “For a few weeks, with the bankruptcy of banks in the United States and the rescue of Credit Suisse, the bank’s hybrid (coconut) debt prices fell through the floors, which gave us the opportunity to include some bonds in the money issue of large banks, which paid large coupons, ”recalls the fixed income manager. in Bestinver.
Another measure that bond magicians adopt is an increase in duration, something that can’t be tied up with money to maturity. The bank’s offering in recent months has focused on relatively short issuances, 12 or 18 months. Now, those who have invested there have to wait for the money to mature. However, the leading fixed income experts are finding that there is more and more value in long term issues. Since they are unrestricted, they can sell the shorter bonds and exchange them for ones that mature in a longer period of time. “It makes sense to increase the term of the funds so that you can benefit when the interest rate drops,” explains Roque.
The entity’s flagship fixed income fund, Bestinver Renta, is now four years old, twice as long as it was at the start of the year. In addition, this type of vehicle has more freedom to hold positions in corporate debt cases.
When translating strategies into numbers, active managers believe that they can provide their participants with an additional return of about 2% without the need to increase the assumed risk.
There are some conservative fund specialists who go a step further. This is the case of José María Lecob, another legend of the sector. Dunas Capital’s Head of Fixed Income has an absolute return strategy in the Dunas Valor Prudente Fund. This allows you to not only be able to put mixed, high-yielding debt into a portfolio, but also use hedging to reduce volatility. “Our management is like a last-generation rocket, which has the ability to fly to adapt to mountain science,” says Lecob. His fund, which is already up 1.6% this year, shows that the manager’s statement is correct: in recent years he has always managed to avoid losses and provide some profitability and peace of mind to the client.
Managers’ Attitude Strategies
- Duration. Funds sold by banks were concentrated in bonds with relatively short maturities, ranging from 12 to 18 months. Active managers, on the other hand, consider now to be the perfect time to include long-dated issues in their portfolios, because they believe there is more value here and because it protects them from a hypothetical drop in interest rates. In the case of the Bestinver Renta fund, it has gone from an average duration of its bonds of 2 years, at the beginning of this year, to 1 year out of 4 years.
- Asset flexibility. Another characteristic of active fixed income managers is that they have more room to consolidate assets of different types into an investment vehicle. Not only do they have to commit to sovereign debt issued by Spain or Italy (like most funds sold by banks), but they can decide there is more risk-return value in issues from high-quality companies, or in emergency convertible bonds for the banking sector.
- Sectoral management. Leading managers in the debt world include Rafael Valera, CEO of Buy & Hold, which has €300m of assets under management. Now is clearly the perfect time for the investor to take on more risk in the money he manages, and he has chosen to leverage higher credit quality corporate debt to 82% (in B&H debt). This fund has achieved an average annual return of 4% in the past three years. This makes it one of the best managers in Europe within its class, where losses predominate in this period.
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