Analysis of the global fixed income sector shows dynamic asset allocation has been the key to relati...
Analysis of the global fixed income sector shows dynamic asset allocation has been the key to relatively good performance over what has been a difficult period for the asset class.
The average fund of the 329 in the sector has returned just 3.5% over three years to the end of June 2000. This breaks down as -1.8% over one year, 0.11% from July 1998 through June 1999 and 5.41% from July 1997 to June 1998. Average annualised standard deviation was 6.9%.
One of the better performers in risk/return terms is the JP Morgan International Fixed Interest fund. It has returned 22.57% over three years. This breaks down as 4.74% over one year, 5.77% from July 1998 through June 1999 and 10.63% from July 1997 to June 1998. Annualised standard deviation was 2.95%.
Fund manager Maria Ryan said: "We divide fixed interest management into three key areas - first, decision about country allocation and where to invest along the duration curve, second about currency and third about how much to allocate to non-government issuance.
"We take these decisions separately because the three areas are not perfectly correlated. As a result, for each level of decision taken, the overall risk profile of the fund should fall. For example, last year was difficult for spread products but good for currency. We were fully hedged to the dollar and benefited from general dollar strength."
Last year also saw the fund underweight duration.
"In some ways this was damaging because we were mainly underweight Japan, which was the best performing market. However, on an overall view we were correct to be underweight and we therefore had some return back," Ryan said.
Another positive decision was to cut allocation to the credit market, leading to an underweight position there as spreads began to widen. Over the longer term, the fund picked up alpha during the earlier part of the three-year period via a number of convergence trades in 1996 and 1997 in the run-up to monetary union in Europe.
Ryan said: "We were also positive on credit markets until mid 1997 and then reduced our position. However, over the last month we have been building up our position."
She is now bullish on the outlook for bonds in general and in particular believes European bonds offer good value going forward.
"We believe we have reached a turning point in global growth terms. Recent data seems to indicate the US is now off its highs in growth terms. Over the next six months this should feed into Europe, which traditionally lags the US in this respect. Although there could be some near-term volatility, possibly linked to oil prices, European growth is now close to its peak and we are building our allocation to European bonds, although we will wait to see leading indicators turn before we move aggressively into this area."
Another fund demonstrating relatively strong risk-adjusted returns is the Ashburton Replica Dollar Cash fund. This has returned 13.49% over three years which breaks down as 4.44% over one year, 1.14% from July 1998 to June 1999 and 7.44% from July 1997 through June 1998. The annualised standard deviation was 2.72%.
The fund is managed by Peter Lucas. He said: "I look to generate a consistent positive return and am more concerned with absolute than with relative returns. My main focus is on timing the market. If I am positive on bonds I can have a maximum of 70% allocated, but if I am not the cash component of the fund is increased.
"My focus is generally on bonds of eight to 10-year duration. I do not vary my position along the yield curve. Although in theory the shorter end should offer a defensive play during a bear phase because of the lower duration, in practice yields rise faster at the shorter duration during a bear phase."
Although in theory the fund can invest in corporates down to single A-credits, Lucas sticks to the top end in quality terms, focusing on top-down views. He sees no point in taking bottom-up risk.
Within the top end of the market, he finds scope to switch between various issues, including US agencies, dollar Euro bonds and US treasuries, as well as Treasury inflation-protected securities, which currently offer good value.
Bonds could see a recovery after the longest bear period in the last 20 years.
"In January 1999 I was very bearish. It seemed clear that the Fed had done enough to ensure the global economy would avoid a significant global recession. At the same time, I felt bonds were overvalued. Since then, bonds have gone from expensive to cheap and there has been a deterioration in the inflation backdrop, particularly in the US. I think the bear market has largely played out now.
"In the short-term I am cautious. People have jumped on the 'US slowdown' bandwagon rather too readily, so there is room for a growth or inflation shock. As a result, I am switching into cash and inflation-linked bonds.
"Analysts' reports that US interest rates have peaked could be somewhat premature. But once any potential shocks have worked their way out of the system, there could be a major buying opportunity for bonds, possibly within the next month or so."
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