Hello and welcome. My name is Jon Mawby on behalf of the Man GLG Strategic Bond Fund, and I’m pleased to bring you our most recent quarterly update and an outlook at the end of the third quarter of 2017.
We were pleased to deliver a strong absolute and relative third quarter for investors, with the underlying composite of the fund returning 2.69% net of fees over the period. Looking at the macroeconomic backdrop and the quarter commenced with rising confidence in the strength of the global economy, with a further tailwind coming from strong earnings results. While mixed economic data across the US and Europe had some effect on regional performance, it was a broadly dovish start in terms of central bank rhetoric. The sum effect of this was that there was little to inject volatility into markets for much of July. Against this relatively benign backdrop for fixed income markets, core government bonds were broadly flat to slightly positive, while credit added gains across both the US Dollar and European markets with high beta corporates and sub-financials in particular outperforming across all major regions.
Despite the traditional summer low, August was then quite an eventful month with the macroeconomic backdrop dominated by geopolitics and the ongoing events in Washington. The escalation of threats from North Korea created some clear bouts of volatility in markets, although this ultimately translated into quite short-lived spells of risk-off sentiment. There was significant political uncertainty in the US too as the viability of Trump’s tax reform agenda was again called into question. The debt ceiling worries also began to be a cause for concern.
On the central bank front, it looks set to be an important month with the annual Jackson Hole meeting taking place; however, the much anticipated speeches from the Fed’s Yellen and the ECB’s Draghi failed to provide details on monetary policy changes and were therefore effectively a non-event for markets. Fixed income returns were broadly stable, with core government bonds posting a solid month as they benefited from a safe haven bid. This in turn proved generally supportive for credit, where investment grade broadly outperformed high yield and made lower bond yields and slightly weaker month for risk assets.
September was another month characterised by low volatility, with risk assets generally adding gains. In the latter half of the month, however, central banks and political developments impacted fixed income, with the growing optimism around Trump’s tax plans, plus a Janet Yellen speech which bond markets read as slightly hawkish. The net result of the Fed and Trump news flow was a bout of volatility, particularly in interest rate markets. Core government bonds overall had a tough month, with US treasuries and bonds both negative, and gilt yields rising even further. These moves did little to support the more interest rate sensitive investment grade credit space, and September saw high yield comfortably outperform.
Virtually all fixed income indices saw spreads tighten over the quarter, with high yield and financials broadly leading performance, while global government bonds had a tougher quarter and lagged some way behind, finishing the quarter with a flat to slightly to marginal widening. We were pleased to be able to deliver our investors with good performance over the quarter, as our core positioning enabled us to navigate the pockets of volatility that impacted broader fixed income markets. Particularly in September with our idiosyncratic bottom-up credit selection and value-driven ethos combined with our top-down asset class positioning driving returns.
Positive performance was foremost driven by strong gains from our core financials positioning across banks and insurance. Our high yield corporates positioning also contributed well with our selected emerging market exposures and investment grade corporate and hybrid allocations also saw some positive returns. The downside was limited with our government bond positioning detracting moderately given the fund’s duration hedges across gilts, French government bonds and US treasuries.
In terms of positioning, we maintain our allocation to financials, which has been the core credit positioning of the strategy over the last 24 months. We think the financial sector trend will be positive over the next 12 months, and that financial credit will outperform on a risk-adjusted basis given the current attractive yield and expected spread compression to other sectors. We also increased exposure very selectively to a number of idiosyncratic opportunities where we saw potential pockets of opportunity in high yield, mainly in Europe, and hard currency credit positions within emerging market debt. We actively managed interest rate sensitivity between one and two years over the quarter, which is at the lower end of our historical range.
Over the period we also broadly maintained our credit exposure towards the higher end of where the strategy has been positioned. We increased credit risk moderately towards the end of the period as volatility fell away, and the geopolitical flash points in August subsided. At a high level the strategy retains the profile of a low duration credit focused fund, and our interest rate sensitivity remains materially lower than that of the strategic bond peer group and of benchmarked fixed income as we seek to equip the fund with the flexibility to take advantage of volatility in the fourth quarter. As global financial markets face up to central bank policy normalisation, a low headline duration should help the fund outperform if rates rise, but there are also two other points in terms of our ability to profit from this.
Firstly, rising rates would be positive for our financials allocation, which is approximately 35% banks and 10% insurance at the moment, which has a positive correlation to rates in terms of net interest margins, but also our broad mandate gives us the flexibility to target interest rate curve and cross regional trades. As we have demonstrated this normalisation provides greater dispersion and a higher likelihood in our view that we will be able to generate alpha. The strategy maintained an attractive yield over the third quarter, ending the period with a yield of around 5½% given our positioning to financials, selective corporate and high yield. We anticipate this will be accretive to long-term performance and provide an attractive breakeven profile.
We believe the fund currently provides a very attractive income relative to many other areas of the fixed income markets. We intend to continue to rotate out of expensive or overvalued assets, and primarily look to reinvest should opportunities arise, particularly in the primary markets. Realised volatility broadly remains subdued by historical standards, and we continue to monitor market technicals, particularly with respect to overcrowded positioning. Fundamentals remain fairly robust for credit, and we expect spreads to continue to tighten into year end, albeit at a slower pace versus the last 12 months, and with increasing periods of volatility.
Thank you for listening, and we look forward to speaking to you next quarter.