Faced with challenging market conditions, UK investors are increasingly turning to strategic bond funds with a global remit to provide fixed income exposure.
"Strategic bond funds have the flexibility to move in and out of different fixed-income sectors in search of the best opportunities," says David Leduc, chief investment officer at Standish and manager of the BNY Mellon Global Strategic Bond Fund.
In contrast, UK corporate bond funds – the best selling IMA sector in 2009 – arguably now only offer modest scope for further outperformance from investment-grade corporate bonds, according to Leduc. His reasoning is that company-issued debt securities have already rallied strongly following the indiscriminate sell-off across all risk assets after Lehman’s bankruptcy in September 2008.
Many UK corporate bond funds came under severe pressure in the final quarter of 2008 given the requirement to hold at least 80 per cent of their assets in corporate bonds. In contrast, strategic bond funds were able to seek the safe haven of government bonds during this period. Their only sector criteria are that at least 80 per cent of a fund should be invested in sterling-denominated assets or hedged back into sterling.
As might be expected, not all strategic bond funds are the same. Some strategic bond funds performed poorly through 2008 as the very flexibility enshrined in their investment mandates meant a number were heavily exposed to higher yielding investment-grade bonds and speculative grade issuers in their search for incremental yield ahead of the 2008 credit crunch.
"When the music stopped with the Lehman’s debacle, these funds were left high and dry with little room for manoeuvre. Market liquidity dried up and investors in these funds had to endure a rollercoaster ride in performance," says Leduc.
While the strong recovery in credit spreads during 2009 restored much of the value that had been lost in 2008, the dispersion of returns across the strategic bond sector has been staggering, says Leduc.
"It demonstrated quite dramatically the wide range of investment strategies being deployed across this sector and should act as the clearest of signals to investors to do their homework and understand what the manager is trying to achieve.”