Corporate bonds showing good value, says Fidelity

Yields on sterling corporate bonds are now breaching 8% and are attractive compared to history, says Fidelity International's Ian Spreadbury, manager of FIF MoneyBuilder Income Fund.

As the prospects of an economic slowdown increase, he believes this is the environment in which many bonds will continue to prosper, provided investors tread carefully.

His comments came at the recent Fidelity Investment Forum: "Investment grade corporate bonds held up pretty well over the last year, offering investors both much capital protection and good diversification to equities. Although we are now in a full-scale banking crisis, and I fully expect more bad news to come, much of this bad news is already priced in so we are seeing a potential entry point."

In particular Mr Spreadbury has identified some attractive senior debt in selected banks and financials, where he sees historically cheap valuations, although he remains underweight the sector overall. He is also focusing on higher quality asset backed securities, avoiding the lower quality debt, much of which has been marked down recently.

"Our analysts have found some undervalued debt in certain banks and financials so I've been reducing my underweight here, generally being careful to be well diversified within the sector and to stick with the lower-yielding senior debt that receives comparatively more protection than the riskier subordinated bonds, some of which receive as little protection as equities. However, when we consider banks, we have to remember that they have lost or written off more than they have raised over the last year - $592bn compared to $443bn respectively - so it is far too early to make any general call about the sector as a whole.

"Another big theme, and one that also demonstrates my cautious stance, is my exposure to asset backed securities. A good example is pub group Punch Taverns, which is principally financed by debt, of which the best-rated, AAA bonds have performed well but the riskier BBB bonds have been crushed down to around 60 pence in the pound. With AAA bonds representing around a quarter of all debt, the company would have to lose three quarters of its assets before AAA investors started to suffer. It's a position I'm happy to maintain.

"The main reason I am positive about corporate bonds is that we are likely heading towards an economic slowdown and this is exactly the environment in which fixed income investors can prosper. Credit spreads are as wide as I can remember and yields at 8% are very attractive when compared to nominal GDP, which is the long-run driver of corporate bond yields. Nominal GDP expectations are 5.1% and so when these data diverge in the way that they have now we know it could spell good news for fixed income investors."

In addition to managing the £1.2bn FIF MoneyBuilder Income Fund, a corporate bond fund currently yielding 5.58%, Mr Spreadbury is also portfolio manager of FIF Sterling Bond Fund, which invests in government and corporate bonds and yields 5.29%, and FIF Extra Income Fund, which allocates to investment grade and high yield corporate bonds and yields 6.79%.

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