Corporate bond investing in an inflationary environment
Ben Lord, Fund Manager
October 2013
Five years of sticky cost-push inflation
(2007-2012)

2
Five years of sticky cost-push inflation
UK RPI and CPI
6%
5%
4%
RPI Target

3%
2%

UK RPI
UK CPI
CPI Target

1%
0%
-1%
-2...
Five years of sticky cost-push inflation
Sterling depreciation

Sterling has lost around 20% since 2007
2.2
2

Rate

1.8

...
Five years of sticky cost-push inflation
Higher energy bills and fuel costs
UK electricity and gas prices
14.0

Price, £ /...
Five years of sticky cost-push inflation
Rising food prices

UN Food and Agriculture World Food Price Index
250

200

Inde...
Five years of sticky cost-push inflation
Negative real wage growth

UK real wage growth has been negative
3%

2%
1%
0%
-1%...
Time for demand-pull inflation?

8
PMI data hits record highs

All sectors moving in the right direction
UK all-sector PMI
60

58
56

Index values

54
52
50
...
UK housing market showing signs of life
UK house price indices

FFL scheme

Rebased to 100

200

180

160

140

120

100

...
Economic recovery appears to be taking place
What does this hold for inflation?
Citi Economic Surprise Index
150
Data abov...
UK economic slump is worse than Great Depression
UK economic growth compared with previous recessions
Change in real GDP
1...
UK employment is well above previous recession levels
Level of whole-economy employment compared with previous recessions
...
Global inflation series

Re-based to 1 as at December 1899 on a log scale

10,000,000,000,000
1,000,000,000,000
100,000,00...
Central banks have printed almost $10 trn since 2007
Sum of major central bank balance sheets
US, UK, ECB, Japan, China an...
BoE’s Carney offers some forward guidance
BoE Inflation report – August 2013

“We are introducing forward guidance as part...
Inflation and credit views

17
Inflation expectations

Valuations support inflation protection
Five-year breakeven rates for the UK, US and Germany

3.5
...
Oil shocks analysis

Effect on inflation measures of an oil price increase
Oil Price
$/Barrel

US CPI

40

-1

-1.2

-3

1...
Five-year implied default rates, UK non-financials
Implied vs actual default experience
20%
18.3%

15%

13.4%

10.4%

10%
...
Conclusions
• Economic recovery and current policy responses may be laying the
foundations for higher future inflation

• ...
M&G UK Inflation Linked Corporate

Bond Fund

22
M&G UK Inflation Linked Corporate Bond Fund
Fund facts

• Co-fund manager

Ben Lord

• Co-fund manager

Jim Leaviss

• Aim...
M&G UK Inflation Linked Corporate Bond Fund
Regulatory

•

VaR limits

–
–

Upper limit: 10%
Lower limit: 0.0%

Internal

...
Why low duration matters

Less exposed to a rise in interest rates
Effect on capital value if
Duration

Yields +1%

Yields...
Inflation expected to return

How might the fund perform in an inflationary environment?

Yield

5Y UK Gilt

5Y UK IL Gilt...
Fund positioning

27
Fund positioning summary

M&G UK Inflation Linked Corporate Bond Fund
Key portfolio themes

Duration
6.0

Duration

Low in...
Fund positioning summary

M&G UK Inflation Linked Corporate Bond Fund
Key portfolio themes

Duration

Low interest rate
du...
Fund positioning summary

M&G UK Inflation Linked Corporate Bond Fund
Key portfolio themes

Duration

Low interest rate
du...
Fund positioning summary

M&G UK Inflation Linked Corporate Bond Fund
Key portfolio themes

Allocation to US credit over t...
Fund positioning summary

M&G UK Inflation Linked Corporate Bond Fund
Key portfolio themes

30 day VaR (99%)
10%

Duration...
Fund positioning

M&G UK Inflation Linked Corporate Bond Fund
6
Jan 2011

5
4

Sep 2010

Duration (years)

Jun 2012
3
Sep ...
We have been flexible and taken advantage of recent
market volatility
25%
215

195

20%

Index values

175
15%
155

135

1...
Fund positioning summary

M&G UK Inflation Linked Corporate Bond Fund
Top 10 physical positions

Rank

Issuer

%

1

62.2
...
Fund positioning summary

M&G UK Inflation Linked Corporate Bond Fund
Top 10 CDS positions

Rank

Issuer

%

1

23.0

2

C...
Risk and performance analysis

37
Value at Risk

Plenty of headroom to add risk
VaR limits

15%

10%

5%

0%

30 day VaR @99%

Upper Limit

Lower Limit

Dai...
Credit stress tests

M&G UK Inflation Linked Corporate Bond Fund
15%

12.61%

10%

9.08%

8.23%
5.31%

5.31%

5%

4.00%
0....
Interest rate stress tests

M&G UK Inflation Linked Corporate Bond Fund
10%
8.23%

8%
6%
3.98%

4%

2.08%

2%

2.64%

1.03...
Performance since inception in September 2010
M&G UK Inflation Linked Corporate Bond Fund
140
135
130

Indexed to 100

125...
M&G Global Corporate Bond Fund

42
M&G Global Corporate Bond Fund
Fund at a glance

An active fixed income fund consisting primarily of investment grade
corp...
M&G Global Corporate Bond Fund
Why we can run a global fund

• Unconstrained investment approach allows a high degree of s...
Access to credit research in the United States
• PPM America, Inc., an affiliate of M&G, is a well-resourced and
establish...
M&G Global Corporate Bond Fund
Corporate bond range at a glance
M&G Corporate
Bond

M&G Strategic
Corporate Bond

M&G Euro...
Portfolio themes
Top down
MACRO

Bottom up
ASSET TYPE

SECTOR

INDIVIDUAL CREDIT

- Short duration (5.3y

RATES

vs 5.7y f...
M&G Global Corporate Bond Fund
Opportunities across global bond markets

• Maximising cross-currency swap adjusted z-sprea...
Cross currency relative value opportunities

Deutsche Telekom Z spreads
400

350

bps

300

250

200

DT 8.75 06/15/2030 U...
M&G Global Corporate Bond Fund

Fund positioning
Asset allocation
11.7% 6.8%

Country allocation

Index-linked
government
...
M&G Global Corporate Bond Fund

Duration positioning
Duration contributions
6.0

5.7
5.3

5.0

Years

4.0

3.5

3.7

3.0
2...
M&G Global Corporate Bond Fund
Sector exposure

Telecommunications

20.2

Banking

17.9

Basic Industry

8.8

Sovereign

6...
www.bondvigilantes.com

www.twitter.com/bondvigilantes

53
Appendix

54
Demographics

Increasing elderly dependency ratio
Population over 60 by region
Population over 60 by region
2500

Millions...
Demographics: ageing population
Not just a developed world phenomenon…
% of population aged 60 years or older

22%
19%
201...
What am I buying when I purchase an inflation-linked
corporate bond?
Pure credit risk
= 1.6% pa

BT I/L 2025
Yield = 1.4%
...
Some issuers of UK inflation-linked corporate bonds

58

Source: M&G, June 2013
Synthetic inflation-linked corporate bonds
How to create one

Synthetic France Telecom linker

Credit default swap
(Pure C...
Ben Lord
Biography

•

•

Ben previously worked at Gordian Knot as a credit
analyst covering global financial institutions...
Jim Leaviss
Biography

•
•

Manager of the M&G Global Macro Bond Fund
since September 1999

•

Manager of the M&G Gilt & F...
The value of stockmarket investments will fluctuate, which will cause fund prices to fall as well as rise and you may not ...
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Mand g uk inflation linked corporate bond fund m&g global corp bond fund ...

  1. 1. Corporate bond investing in an inflationary environment Ben Lord, Fund Manager October 2013
  2. 2. Five years of sticky cost-push inflation (2007-2012) 2
  3. 3. Five years of sticky cost-push inflation UK RPI and CPI 6% 5% 4% RPI Target 3% 2% UK RPI UK CPI CPI Target 1% 0% -1% -2% UK inflation has been above target 54 out of 60 months over the past 5 years 3 Source: Bloomberg, M&G, 30 September 2013
  4. 4. Five years of sticky cost-push inflation Sterling depreciation Sterling has lost around 20% since 2007 2.2 2 Rate 1.8 GBP/USD 1.6 1.4 GBP/EUR 1.2 1 A weaker pound has driven up import costs 4 Source: Bloomberg, 30 September 2013
  5. 5. Five years of sticky cost-push inflation Higher energy bills and fuel costs UK electricity and gas prices 14.0 Price, £ / Kw 13.0 12.0 11.0 10.0 9.0 Energy and gas prices have risen over 35% since 2007 5 Source: Bloomberg, 31 December 2012
  6. 6. Five years of sticky cost-push inflation Rising food prices UN Food and Agriculture World Food Price Index 250 200 Index 150 100 50 0 And UK food bills shot up by 3.8% in the past year 6 Source: Bloomberg, 30 September 2013
  7. 7. Five years of sticky cost-push inflation Negative real wage growth UK real wage growth has been negative 3% 2% 1% 0% -1% -2% -3% -4% -5% 2007 2008 2009 2010 2011 Putting household budgets under pressure 7 Source: Bloomberg, 30 September 2013 2012 2013
  8. 8. Time for demand-pull inflation? 8
  9. 9. PMI data hits record highs All sectors moving in the right direction UK all-sector PMI 60 58 56 Index values 54 52 50 48 46 44 42 40 Recent data points to further acceleration in growth 9 Source: Bloomberg, 30 September 2013
  10. 10. UK housing market showing signs of life UK house price indices FFL scheme Rebased to 100 200 180 160 140 120 100 LSL Acadametrics 10 Source: Bloomberg, 31 July 2013. Rebased to 100 at 28 February 2002 Nationwide HBOS
  11. 11. Economic recovery appears to be taking place What does this hold for inflation? Citi Economic Surprise Index 150 Data above expectations Index values 100 50 0 -50 Data below expectations -100 Surprise Index Recent economic data has been surprising on the upside 11 Source: Bloomberg, 30 September 2013
  12. 12. UK economic slump is worse than Great Depression UK economic growth compared with previous recessions Change in real GDP 15% 1990/93 10% GDP: change from peak 1973/76 1930/34 5% 1979/83 1920/24 0% 2008/? -5% -10% -15% 0 6 12 18 24 30 36 42 Months from start of recession The UK is no safe haven 12 Source: ONS, NIESR, September 2013 48 54 60 66
  13. 13. UK employment is well above previous recession levels Level of whole-economy employment compared with previous recessions 102 Indices: peak of GDP = 100 2008/09 100 98 1980/81 96 1990/91 94 92 8 6 4 2 - 0 + 2 4 6 8 10 12 Quarters from pre-recession peak in GDP 13 Source: Bank of England Inflation Report, May 2013 14 16 18 20
  14. 14. Global inflation series Re-based to 1 as at December 1899 on a log scale 10,000,000,000,000 1,000,000,000,000 100,000,000,000 10,000,000,000 1,000,000,000 1913 1971 Germany Italy France 100,000,000 Japan 10,000,000 1,000,000 Spain 100,000 10,000 1,000 UK US Switzerland 100 10 1 0 -10 What lessons does this hold for 21st century investors? 14 Source: Deutsche Bank, GFD , 12 September 2011
  15. 15. Central banks have printed almost $10 trn since 2007 Sum of major central bank balance sheets US, UK, ECB, Japan, China and Switzerland 15 USD trln 12 9 USD +10 trillion 6 3 …larger than the combined GDP of the UK, Germany and France 15 Source: DB Research, February 2013
  16. 16. BoE’s Carney offers some forward guidance BoE Inflation report – August 2013 “We are introducing forward guidance as part of a mixed strategy which includes bank rate at historic lows, asset purchases and the funding for lending scheme” Forward guidance Focus on money velocity Return confidence to business and households Repair transmission mechanism (FFL scheme) Mervyn King focused on quantity of money. Carney is now focusing on velocity of money 16 Source: Bank of England, Quarterly Bulletin-Q2, June 2013
  17. 17. Inflation and credit views 17
  18. 18. Inflation expectations Valuations support inflation protection Five-year breakeven rates for the UK, US and Germany 3.5 3.0 2.5 2.0 1.5 1.0 0.5 0.0 UK (RPI) US Inflation protection looks cheap 18 Source: Bloomberg, 30 September 2013 Germany
  19. 19. Oil shocks analysis Effect on inflation measures of an oil price increase Oil Price $/Barrel US CPI 40 -1 -1.2 -3 112 50 -0.8 -0.9 -2.4 108 60 -0.6 -0.7 -1.8 70 -0.4 -0.5 -1.2 80 -0.2 -0.2 -0.6 90 0 0 0 100 0.2 0.2 0.6 120 0.4 0.5 1.2 130 0.6 0.7 1.8 140 0.8 0.9 2.4 150 1 1.2 3 160 1.2 1.4 3.6 170 1.4 1.6 4.2 180 19 UK RPI EA CPI ex-tobacco 1.6 1.9 4.9 Source: Fathom Consulting , Bloomberg, 30 September 2013 Oil price ($/barrel) 104 100 96 92 88 84 80
  20. 20. Five-year implied default rates, UK non-financials Implied vs actual default experience 20% 18.3% 15% 13.4% 10.4% 10% 7.3% 6% 5% 2% 3% 2% 1% 2% 1% 0.4% 0% IG Non-Fin Actual Average AA A Actual Worst BBB Implied Defaults Default risk premiums are very high vs. experience since 1920s 20 Source: Implied defaults calculated using 40% recovery rate. Deutsche Bank and Merril Lynch Indices, 30 September 2013. * Bps
  21. 21. Conclusions • Economic recovery and current policy responses may be laying the foundations for higher future inflation • Markets are pricing in a very low level of inflation • A strategy of short duration, inflation protection and high quality credit that delivers a positive real yield has to be a wise strategy Source: M&G as at January 2011 21
  22. 22. M&G UK Inflation Linked Corporate Bond Fund 22
  23. 23. M&G UK Inflation Linked Corporate Bond Fund Fund facts • Co-fund manager Ben Lord • Co-fund manager Jim Leaviss • Aim To protect the value of capital and income from inflation by generating a return consistent with or greater than UK CPI over the medium to long term • Launch date September 2010 • Size £775 million 23 Source: M&G, 30 September 2013
  24. 24. M&G UK Inflation Linked Corporate Bond Fund Regulatory • VaR limits – – Upper limit: 10% Lower limit: 0.0% Internal • Restrictions by corporate issuer rating – – – – AAA - BBB 5% BB & below 3% Structured credit (inv grade) 2.5% Structured credit (high yield) 1.5% Sector • • 24 Minimum 80% Sterling (or hedged back to Sterling) Minimum 70% exposure to investment grade credit (including derivatives) Please note that guidelines are subject to change
  25. 25. Why low duration matters Less exposed to a rise in interest rates Effect on capital value if Duration Yields +1% Yields +3 % 2.5yrs -2.5% -7.5% Iboxx £ Corp Bond Index 8yrs -8% -24% BofA ML UK Gilt Index 10yrs -10% -30% M&G UK Inflation Linked Corp Bond Fund 25 Source: M&G, 30 September 2013
  26. 26. Inflation expected to return How might the fund perform in an inflationary environment? Yield 5Y UK Gilt 5Y UK IL Gilt 5Y UK IL Gilt + Credit “UKIL” Inflation 3% Inflation 4% +1.5% (nom. yield) -1.5% -2.5% -1.7% (real yield) -1.7% -1.7% -1.7% (real yield) + 1.0% (IG credit) - 0.7% (real yield) -0.7% -0.7% Fund returns are explicitly linked to RPI, while the credit component provides an additional level of yield 26 Source: M&G, 30 September 2013
  27. 27. Fund positioning 27
  28. 28. Fund positioning summary M&G UK Inflation Linked Corporate Bond Fund Key portfolio themes Duration 6.0 Duration Low interest rate duration: 2.5 years 5.0 Years 3.0 2.0 Years 4.0 1.0 0.0 -1.0 -2.0 -3.0 Fund duration 28 Source: M&G, 30 September 2013 Fund credit spread duration
  29. 29. Fund positioning summary M&G UK Inflation Linked Corporate Bond Fund Key portfolio themes Duration Low interest rate duration: 2.5 years Asset allocation The core of the fund is invested in index-linked credit Asset allocation, % Short dated corporate bonds 6.0% FRNs 8.6% Synthetic index-linked corporates 49.9% 29 Source: M&G, 30 September 2013 Cash 6.1% Index-linked government bonds 13.0% Index-linked corporate bonds 16.4%
  30. 30. Fund positioning summary M&G UK Inflation Linked Corporate Bond Fund Key portfolio themes Duration Low interest rate duration: 2.5 years Credit rating breakdown, % AAA 0.2 AA Asset allocation Credit risk The core of the fund is invested in index-linked credit We find the best risk/reward profile in BBB credit 13.4 A 15.4 BBB BB B 59.4 3.6 1.8 CCC & Below 0.0 NA 0.0 Cash 30 Source: M&G, 30 September 2013 6.1
  31. 31. Fund positioning summary M&G UK Inflation Linked Corporate Bond Fund Key portfolio themes Allocation to US credit over time 35% Duration Low interest rate duration: 2.5 years Asset allocation The core of the fund is invested in index-linked credit 30% 25% 20% 15% Credit risk We find the best risk/reward profile in BBB credit 10% 5% Geographic exposure We are moving back into EU credit 0% US Credit 31 Source: M&G, 30 September 2013 US Banks US Insurance
  32. 32. Fund positioning summary M&G UK Inflation Linked Corporate Bond Fund Key portfolio themes 30 day VaR (99%) 10% Duration Low interest rate duration: 2.5 years 8% Asset allocation The core of the fund is invested in index-linked credit Credit risk We find the best risk/reward profile in BBB credit Geographic exposure We are moving back into EU credit 6% 4% 2% Value at risk 32 The low VaR is the result of high quality credit portfolio with little interest rate risk Source: M&G, 30 September 2013 0%
  33. 33. Fund positioning M&G UK Inflation Linked Corporate Bond Fund 6 Jan 2011 5 4 Sep 2010 Duration (years) Jun 2012 3 Sep 2013 2 1 Feb 2013 0 -1 -2 AAA- AA+ AA AA- A+ Credit risk 33 Source: M&G, 30 September 2013 A A- BBB+ BBB
  34. 34. We have been flexible and taken advantage of recent market volatility 25% 215 195 20% Index values 175 15% 155 135 10% 115 5% 95 75 0% Itraxx Europe 5y (LHS) 34 Source: Bloomberg, M&G, 30 September 2013 Fund risk free cash level 5-day MA (RHS)
  35. 35. Fund positioning summary M&G UK Inflation Linked Corporate Bond Fund Top 10 physical positions Rank Issuer % 1 62.2 2 Tesco Plc 3.2 3 Verizon Communications Inc 1.5 4 National Grid Electricity Transmission P 1.4 5 Scottish Power UK Plc 1.3 6 Granite Master Issuer Plc 1.2 7 National Grid Gas Plc 1.2 8 American International Group Inc 1.2 9 Toyota Motor Credit Corp 1.0 10 35 United Kingdom Gilt Inflation Linked America Movil 1.0 Source: M&G, 30 September 2013
  36. 36. Fund positioning summary M&G UK Inflation Linked Corporate Bond Fund Top 10 CDS positions Rank Issuer % 1 23.0 2 Cdx Na IG 5Y Index 6.0 3 Heathrow Funding Ltd 1.9 4 Electricite De France 1.9 5 Deutsche Telekom Int Fin 1.9 6 Comcast Corp 1.4 7 Ford Motor Co 1.4 8 Eon Intl Finance Bv 1.2 9 Dow Chemical Co 1.1 10 36 Itrx Europe 5Y Index Lloyds Banking Group Plc 1.1 Source: M&G, 30 September 2013
  37. 37. Risk and performance analysis 37
  38. 38. Value at Risk Plenty of headroom to add risk VaR limits 15% 10% 5% 0% 30 day VaR @99% Upper Limit Lower Limit Daily monitoring of global exposure using VaR with methodology 99% one month with an equally weighted observation period (history) of 250 business days 38 Source: M&G, 31 August 2013
  39. 39. Credit stress tests M&G UK Inflation Linked Corporate Bond Fund 15% 12.61% 10% 9.08% 8.23% 5.31% 5.31% 5% 4.00% 0.05% 0.08% 0% -0.05% -0.08% -5% -10% -15% Fund Benchmark 39 Source: M&G, 31 August 2013 -4.73% -7.21% -6.24% -9.17% -8.19% -10.39%
  40. 40. Interest rate stress tests M&G UK Inflation Linked Corporate Bond Fund 10% 8.23% 8% 6% 3.98% 4% 2.08% 2% 2.64% 1.03% 0.02% 0.79% 0.08% 0% -0.02% -0.08% -0.73% -1.02% -2% -2.03% -4% -3.72% -6% -7.21% -5.41% -8% IR +1bp Fund Benchmark 40 Source: M&G, 31 August 2013 IR -1bp IR+50bp IR-50bp IR+100bp IR-100bp IR Curve IR Curve Flatteners Steepeners
  41. 41. Performance since inception in September 2010 M&G UK Inflation Linked Corporate Bond Fund 140 135 130 Indexed to 100 125 25.0% 120 115 11.7% 10.1% 110 105 100 95 M&G UK Inflation Linked Corporate Bond Fund IMA UK Index Linked Gilts sector avg CPI Indexed 41 Source: Morningstar. Inc., UK database, 31 August 2013, sterling A class shares, net income reinvested, price to price. Rebased to 100, 17 September 2010
  42. 42. M&G Global Corporate Bond Fund 42
  43. 43. M&G Global Corporate Bond Fund Fund at a glance An active fixed income fund consisting primarily of investment grade corporate bonds diversified across industries, issuers and regions Designed for investors who want access to investment grade corporate bonds and to benefit from global macroeconomic trends The fund manager is empowered to take conviction views and aims to maximise total returns for investors Backed by a team with an excellent track record* in managing fixed income portfolios A blue-chip global investment grade bond fund that is designed to capture relative value opportunities across markets 43 *Range of 10 fixed interest funds managed over past 5 years: 4 ranked first quartile, 4 ranked second quartile (Source: Morningstar, Inc., UK database, 31 August 2013, sterling shares, net income reinvested, price to price, rankings in IMA sectors)
  44. 44. M&G Global Corporate Bond Fund Why we can run a global fund • Unconstrained investment approach allows a high degree of selectivity • Global investment grade is not a new asset class for us – London-based research team covers approx 1/3 of global index – We manage significant US investment grade corporate bonds in existing portfolios ($5.8bn across 142 names in USD bonds/$7bn across 69 names in US-based corporates) • Fund manager has experience as US financials analyst • Deputy fund manager has experience as a US credit analyst • Access to US-based credit research via PPM America, an affiliate of M&G Designed to be a best relative value opportunities fund 44 Source: M&G, October 2013
  45. 45. Access to credit research in the United States • PPM America, Inc., an affiliate of M&G, is a well-resourced and established fixed income manager based in Chicago • Approximately $89 billion of fixed income assets under management as of 31 March, 2013 • M&G fund managers have access to views and proprietary research generated by 22 analysts “on-the-ground” in Chicago • M&G fund managers visit Chicago up to 4 times a year to meet with the PPM America, Inc., credit analysis team 45 Source: M&G, 31 July 2013
  46. 46. M&G Global Corporate Bond Fund Corporate bond range at a glance M&G Corporate Bond M&G Strategic Corporate Bond M&G European Corporate Bond M&G Global Corporate Bond £ Corporate Bond £ Corporate Bond EUR Corporate Bond Corporate Bond Blue chip, investment grade corporate bond fund More focused investment grade corporate bond fund European investment grade corporate bond fund Global investment grade corporate bond fund 95-100% GBP 90-100% GBP 95-100% EUR 95-100% USD Investment grade High yield Government bonds 90-100% 0-10% 0-20% 80-100% 0-20% 0-20% 90-100% 0-10% 0-10% 80-100% 0-20% 0-20% Typical duration 6-9 years 4.5-11 years 3-6 years 4-8 years Sector Fund type Typical currency exposure Typical asset allocation 46 Source: M&G, 13 August 2013. The inclusion of this fund information is for illustrative purposes only. Please note that guidelines are subject to change
  47. 47. Portfolio themes Top down MACRO Bottom up ASSET TYPE SECTOR INDIVIDUAL CREDIT - Short duration (5.3y RATES vs 5.7y for index) - Yield curve too steep - EU rates poor rel val - Euro macro tail risks - Hedging duration via - € corp hybrids (low GBP & USD futures rate sens, high yields) - Preference for $ - Fix to float yield FRNs over € & £ - 20-30y USD credit underpriced CREDIT - Bullish credit - Synthetic vs physical - Financials vs HY - Sub vs senior financials - Euro cash bond in Europe - US/UK vs EU - Long end USD telcos valuations very rich (+ve basis opportunities) - Hybrids financials - High coupon USD credit - USD TMT - CDS single name +ve basis - CDS broad IG indices 47 Source: M&G, 30 September 2013
  48. 48. M&G Global Corporate Bond Fund Opportunities across global bond markets • Maximising cross-currency swap adjusted z-spreads amongst top credit relative value picks across $, £ and € to exploit: – Home bias (names trading cheaper in foreign currency) – Market’s preference for funding in one currency over another – Other inefficiencies • High coupon, high priced $ bonds present an opportunity to earn substantially higher z-spreads in those cases where we are comfortable with the credit 48
  49. 49. Cross currency relative value opportunities Deutsche Telekom Z spreads 400 350 bps 300 250 200 DT 8.75 06/15/2030 USD 150 DT 7.125 06/15/2030 GBP 100 DT 4.5 10/28/2030 EUR Exploiting spread differentials across markets 49 Source: Bloomberg, 7 October 2013
  50. 50. M&G Global Corporate Bond Fund Fund positioning Asset allocation 11.7% 6.8% Country allocation Index-linked government bonds Investment grade High yield 50% 45% 40% 35% 30% 25% 20% 15% 10% 5% 0% Fund Benchmark Fund Benchmark 81.5% Credit rating breakdown Currency allocation 70% AAA 5.2 AA 4.5 60% 50% A 40% 17.4 BBB 61.2 BB 8.5 30% 20% 10% B 50 3.2 0% Source: Bloomberg, M&G, 30 September 2013. Barclays Capital Global Corporate Index, BofA Merrill Lynch Sterling Corporate & Collateralised Index, BofA Merrill Lynch Euro Corporate Index
  51. 51. M&G Global Corporate Bond Fund Duration positioning Duration contributions 6.0 5.7 5.3 5.0 Years 4.0 3.5 3.7 3.0 2.0 1.1 1.0 1.0 0.8 0.6 0.0 USD GBP EUR Fund Total Benchmark Fund YTM Duration Barclays Global Corp ML £ Corps ML € Corps 3.8% 2.9% 4.0% 2.2% 5.3 years 5.7 years 8.0 years 4.4 years Slightly short duration 51 Source: M&G, 30 September 2013
  52. 52. M&G Global Corporate Bond Fund Sector exposure Telecommunications 20.2 Banking 17.9 Basic Industry 8.8 Sovereign 6.8 Index 6.2 Asset Backed 5.1 Utility 4.6 Consumer Non-Cyclical 4.1 Insurance 3.9 Media 3.8 Mortgage Backed 3.7 % Energy 3.5 Consumer Cyclical 2.9 Commercial Mortgage Backed 2.0 Technology & Electronics 2.0 Capital Goods 1.8 Healthcare Automotive Financial Services 52 Source: M&G, 30 September 2013 1.4 0.8 0.6
  53. 53. www.bondvigilantes.com www.twitter.com/bondvigilantes 53
  54. 54. Appendix 54
  55. 55. Demographics Increasing elderly dependency ratio Population over 60 by region Population over 60 by region 2500 Millions 2000 1500 2050 Elderly dependency ratio1 2.4 billion 2012 12% 2050 26% Today 1000 Global population 810 million 500 0 More developed regions Less developed regions With more people consuming goods and services, and fewer people producing them, prices will tend to rise 55 Source: Population Division of the Department of Economic and Social Affairs of the United Nations Secretariat, World Population Prospects: The 2008 Revision; Elderly dependency ratio = ratio of population 65+ per 100 population 15-64 based on a medium fertility variant
  56. 56. Demographics: ageing population Not just a developed world phenomenon… % of population aged 60 years or older 22% 19% 2011 2011 27% 34% 2050 11% 2050 2011 24% 2050 30% 20% 30% 25% 20% 15% 10% 5% 0% 10% 0% 6% 10% 2011 10% 25% 2011 2050 2050 30% 25% 20% 15% 10% 5% 0% 15% 24% 2011 2050 The number of old people worldwide is growing faster than any other age group 56 Source: Population Division of the Department of Economic and Social Affairs of the United Nations Secretariat, World Population Prospects: The 2008 Revision; http://esa.un.org/unpp. Assumes medium-fertility variant, 2010-2050
  57. 57. What am I buying when I purchase an inflation-linked corporate bond? Pure credit risk = 1.6% pa BT I/L 2025 Yield = 1.4% + + inflation Pure interest rate risk (duration) “Risk free” yield = -0.2% pa (2024 gilt linker) An inflation-linked corporate bond is a combination of duration risk and credit risk, plus inflation 57 Source: Bloomberg, M&G, 30 September 2013
  58. 58. Some issuers of UK inflation-linked corporate bonds 58 Source: M&G, June 2013
  59. 59. Synthetic inflation-linked corporate bonds How to create one Synthetic France Telecom linker Credit default swap (Pure Credit Risk): France Telecom 5y = 1.0% Yield = -0.5% + RPI + CDS premium Pure interest rate risk (duration): UKTI 2022 “Risk free” yield = -0.5% CDS + government index linked bond = synthetic inflation linked corporate bond 59 Source: Bloomberg, M&G, 30 September 2013
  60. 60. Ben Lord Biography • • Ben previously worked at Gordian Knot as a credit analyst covering global financial institutions • 60 Ben Lord joined M&G in 2007 and was appointed fund manager of the M&G Global Corporate Bond Fund from launch in September 2013. Since launch in September 2010, he has also been the co-manager of the M&G UK Inflation Linked Corporate Bond Fund and the M&G European Inflation Linked Corporate Bond Fund. Additionally, Ben is deputy manager of the M&G Short Dated Corporate Bond Fund He obtained an MA (Hons) from the University of Edinburgh and is a CFA charterholder
  61. 61. Jim Leaviss Biography • • Manager of the M&G Global Macro Bond Fund since September 1999 • Manager of the M&G Gilt & Fixed Interest Income Fund since April 1998 • Co-manager of the M&G UK Inflation Linked Corporate Bond Fund and M&G European Inflation Linked Corporate Bond Fund since September 2010 • 61 Jim Leaviss joined M&G in 1997 from the Bank of England. He is Head of M&G Retail Fixed Interest Has 21 years of experience in fixed income markets
  62. 62. The value of stockmarket investments will fluctuate, which will cause fund prices to fall as well as rise and you may not get back the original amount you invested. For financial advisers only. Not for onward distribution. No other persons should rely on any information contained within. This Financial Promotion is issued by M&G Securities Limited which is authorised and regulated by the Financial Conduct Authority in the UK and provides investment products. The registered office is Laurence Pountney Hill, London EC4R 0HH. Registered in England No. 90776 62

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