Rensburg Corporate Bond Fund – Rising above the fray

The recent turmoil in financial markets has clearly caused much anxiety for investors in most markets; none more so than those in the area where it all started – corporate debt.

Here John Anderson, manager of the Rensburg Corporate Bond Trust explains how he has dealt with the situation and how the fund has been performing as a result.

Q. How has the sterling corporate bond market performed during the so-called “credit crunch”

JA. The most obvious effect was the serious underperformance of bonds issued by financial institutions that were deemed to have exposure to “sub-prime” loans and their numerous derivatives, with asset-backed and securitised issues being badly affected. The Northern Rock saga clearly made investors in similar institutions very nervous and yield spreads over gilts widened substantially. There was a knock-on effect on all other categories of corporate bonds and spreads widened to their highest level for 4 years (around 150 basis points for BBB rated bonds). As if that wasn’t enough, liquidity all but dried up making it virtually impossible to deal in many stocks. Consequently, there was a “flight to quality” rally in government bonds given the level of fear amongst investors.

Q. What did all this mean for the Rensburg Corporate Bond Fund?

JA. Liquidity had been a major concern of mine for some time well before this summer’s crisis. For some months now I have invested only in liquid stocks as I considered the “illiquidity premium” (i.e. that part of a corporate bond’s spread over gilts that compensates one for the poorer liquidity) on issues such as asset-backed securities to be non-existent, even though they carried a relatively low credit risk. In addition, the fund was significantly underweight in financial issues, as I had thought these expensive for some time, as well as having a sizeable holding in UK gilts for both defensive and duration management purposes.

Q. So what effect has the “credit crunch” had on the fund’s performance?

A. The low weighting in illiquid financials meant that we were extremely well positioned ahead of the summer’s events. Over the 3 months to the end of September the fund returned 2.9%, a satisfying outcome in both absolute and relative terms given the “challenging” market conditions. The fund had been performing well before then, however, as credit markets reverted to calmer conditions after the high yield “buying frenzy” of 2003-2005 (something which badly affected the fund’s performance in those years) came to an end. Strong performance this year, following on from that of 2006, has clearly made the medium term much more satisfying.

Q. How do you view the market now and what are the implications for the Corporate Bond Fund?

JA. Since the “bail-out” of Northern Rock and the ½% cut in US interest rates some confidence has returned to the credit markets, but the situation remains fragile. I liken the current state of the market to that of a heart attack victim who has survived but will certainly not be back to their active self for some time to come. Liquidity has improved, but is still far from good, whilst new issuance has resumed. The good news for investors is that credit spreads are now at far more realistic levels and certainly offer value. With that being the case, I have started to increase the fund’s weighting in high quality financial issues and have bought utility debt on attractive yields. The fund’s strategy is still relatively defensive with regard to credit quality, with all of its lower grade bonds being at the short end of the curve to enhance income (the fund currently having a running yield of 5.3%). With the growing likelihood of central banks cutting interest rates before clear evidence of much lower inflation has materialised, the fund is underweight ultra-long dated stocks.