Finding the sweet spots in global credit

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  • 06 mins 24 secs
David Newman, Co-Portfolio Manager, Allianz Global Multi-Asset Credit, discusses the aims and objectives of the fund, his approach when dealing with risk, the investment process behind the fund and explains what makes this fund different from its peers.

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Allianz Global Investors

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DAVID NEWMAN
The aims and objectives are to provide Libor plus 300 returns over a credit cycle. We aim to do this by allocating across the most attractive parts of the credit universe at any one time, and try to minimise volatility as well.

Clients should consider a multi-asset approach, because no one credit asset class provides the best returns at any one time. If you look at credit over many years you’ll find that there are different credit cycles in different industries and in different geographies. And what one needs to do is to allocate efficiently to the best place at any one time. If one is stuck in a single asset class credit fund, one may be in the wrong place at the wrong time. And by the time one has decided that that actually is the case, you would have missed the opportunity to have moved to somewhere more efficient. What we do is we look at all the credit asset classes within our firm, and our CIO will go and allocate efficiently at the right time for you.

We have a very measured approach to risk. We look at a concept called weighted duration time spread. This is looking at the weight of every bond that we own, the spread of every bond that we own and the duration of every bond that we own, and we try to manage that weighted duration time spread to around about 6%. What that means is that if credit spreads doubled tomorrow the drawdown would be about 6%. Compare that to high yield, where if credit spreads doubled tomorrow the drawdown would be about 15%, or investment grade about 8%. So it’s a very measured risk approach. We also use weighted duration time spread to go and look at the exposure to any individual name, individual sector, as well as any credit asset class as well. Typically you would see an information ratio of around about 0.5, allowing you to get that Libor plus 3% return, which is also in line with that WDTS at 6%. Over the life of the fund our realised volatility has been substantially lower than we would have expected at around 1.8%.

Our investment process starts with a top-down view of the world. We look at economic growth across all of the regions. We look at the outlook for interest rates, we look at the outlook for inflation, but we also look at the outlook for default rates and liquidity in the credit markets, and what the senior loan officers are doing in both the US and in Europe, to make sure that credit is being extended. This will give us signals about where the best places are to invest in the fund. If we don’t think that there is a positive tailwind we avoid it. Because there is no benchmark we don’t need to invest where there is deflation, where there is political risk, where there is negative economic growth. But we will invest where the sectors or the individual companies will benefit from something positive, such as US tax breaks; where they will benefit from a political regime which is favouring them; where they will benefit from any other positive momentum which we can go and indicate.

Once we’ve identified where these right places are, we do a very stringent bottom-up credit research process, which involves financial modelling, looking at the management teams, looking at the covenants, looking at the game theory of that business and where it’s going to go in the future. And again we will only invest in businesses where we see stable news flow or positive catalysts. There is no point investing where we think there’s going to be a negative catalyst.

Our fund has always targeted an investment grade type profile and Libor plus 300. When we first started the fund many consultants and clients said the fund was not risky enough. It had to go and provide nearer Libor plus 500 or Libor plus 600 to be a high yield substitute. In our view high yield is a risky asset class, and duration provides you with a bit of a hedge. So if the economies are going down duration should rally, which offsets the spread widening of high yield. You have the risk that you don’t have that hedge from the duration aspect. So if you look at taper tantrum, or you look at the oil crisis, many of these Libor plus 500 funds has massive drawdowns.

So if you look at our returns since inception, we have returned that Libor plus 300. In fact many of our competitors promising Libor plus 600 have returned similar returns to ourselves over the same period, but with more than double the volatility. So now people are realising that an investment grade type of credit profile, and a lower volatility strategy, actually is likely to deliver what it says on the tin, rather than maybe having empty promises.