Performance Review 2005
Tim Haywood & Daniel Sheard: "In 2005, our particular focus on merging markets protected us from the weakness of core markets."
Performance Review 2006
Tim Haywood & Daniel Sheard: "In 2006, that bias came to hurt us a little in the summer: from this point, we adopted a ‘more risks, not more risk’ approach and looked to make more steady, progressive returns commensurate with a low volatility profile."
Performance Review 2007
Tim Haywood & Daniel Sheard: "Our purchase of credit protection on US sub-prime in the summer and autumn of 2006 worked very well in February, July and October when funds suffered horribly."
Performance Review 2008
Tim Haywood & Daniel Sheard: "Capital was preserved until the surge of redemptions in Q4 08. We sold positions across the spectrum in order to preserve a diversified profile, but the bid prices achieved for many cash bonds were dreadful; with the outflows stabilised, we began a process of bargain hunting in the investment grade sector. By the end of this year, we had gross losses of 23bp, just failing, for the first time, to make money for clients every year."
Performance Review 2009
Tim Haywood & Daniel Sheard: "The ‘dash for trash’ and all things credit related helped ups more than recover the previous year’s drawdown. We took a more balanced view for credit from September onwards (in hindsight, this was too early). Greece started to weaken in late Q4 - PIGS became a focus – and we hedged our modest positions with credit protection bought."
Performance Review 2010 - Year-to-Date
Tim Haywood & Daniel Sheard: "The fund slipped in late May having hit new highs earlier in the month: credit had tightened whilst EM FX had weakened. New highs were regained in early September, before the super-strength in the Euro surprised even our Euro-bullish stance, denting returns."
Performance since 2005
Tim Haywood & Daniel Sheard: "Since launch, government bonds have sold off and rallied; credit spreads have tightened, widened and tightened again. Now absolute yields are at era-lows. Our active approach – using traditional bonds, with a notable focus on liquidity, blended with added ‘insurance bought’ via, for example, credit protection – have helped us add value in each environment to make appealing returns with low volatility and - crucially – limited draw-downs, all with the unbroken promise of daily liquidity."
Investment Process and Strategy – How does the Fund Manager Invest?
The investment process is driven by what we call alpha drivers. GAM International Management Ltd. (GAM) is an active manager using a top down approach based on in-house fundamental analysis and third party research. We seek alpha generating opportunities to add value in each of the six following areas:
- G13
- Emerging Market
- Investment Grade Credit
- High Yield Credit
- Convertibles
- Foreign Exchange
This holistic approach ensures that we are not overly reliant on one source of alpha generation and that no one single unforeseen market event would have an overwhelmingly detrimental effect upon any one portfolio.
G13 Bonds
Focusing on core government bond markets, analyzing the market spreads and consensus views we identify those countries with the most favorable bond market fundamentals and rank them in terms of total return expectations. Based on the macro scenario, we define duration targets and market specific yield curve strategies. Finally, a ‘bottom-up’ relative value analysis helps us to select the individual security.
Emerging Market
We use emerging markets securities to enhance portfolio returns and lower volatility. Focusing on local bonds, hard currency bonds and foreign exchange we identify improvement in credit quality, real appreciation of currencies and development of local bond markets. From the top-down perspective, the Firm´s investment team assembles data from a variety of sources to develop an investment outlook, focusing on analysis of the economic cycle, money and credit trends, fiscal policy, international influences, technical market conditions and market psychology.
Investment Grade & High Yield Credit
It is anticipated that these securities will continue to offer exceptional risk-adjusted opportunities. We believe that authority to use at least the full range of investment grade credit, when combined with proper risk control guidelines, is a prudent exercise of fiduciary responsibility. Conceptually a bottom-up approach, the team analyzes individual companies and issues for appropriate parameters and determines whether an issue is appropriate for the Firm´s investment purposes. The interaction of fundamental research and market realities synthesizes both top-down and bottom-up approaches to security valuation and selection.
Convertibles
The approach to convertibles for traditional accounts is to focus on ´balanced´ convertibles. Balanced convertibles have moderate correlations to the price of the equity into which the bond may be converted. Convertibles in this category have the highest convexity - that is, a rally in the underlying equity causes a bigger rise in the convertible price than an equivalent fall and corresponding decline in convertible price. Earnings yields look appealing compared with equivalent corporate bond yields. Given the level of implied volatility, the relative attractiveness of earnings yields and narrow credit spreads, convertibles may be more appealing instruments than straight [non-convertible] debt from the same issuer.
Foreign Exchange
It is our belief that active currency management is an effective and essential tool for adding alpha and controlling risk. We regard currency as a separate asset class. As a result, our allocation decision is taken independently of bond market allocation consideration. We also factor in estimates of long run “fair value”, and information on portfolio and investment flows and data on positions of short term and long term market participants. We employ a stop-loss discipline in managing the currency risk, which is based on the maximum we are prepared to invest in a given position.
Research
We subscribe to a number of journals from Central Banks and independent research institutes and we also have access through the Internet to a wealth of working and discussion papers on economic and fundamental matters. The primary use of the external research is to help with issue selection.
We pay for software such as Bloomberg and Datastream as a source of fundamental information and as a comparison to check our own views and conclusions against. It would be unrealistic to believe that we had the sum total knowledge on any particular investment area and therefore we have no embarrassment in utilizing external knowledge where it gives greater insight into an investment opportunity.
Investment Decision
Within the investment process, the lead portfolio managers cooperate with other specialists / portfolio managers. Within their sectors, specialists
- Analyse bond markets yield curves
- Assess movements in credit spreads
- Analyse relative value of Agencies / Supranationals
...identify opportunities away from Government Bonds
- Opportunities in hard- or local currency Emerging Markets bonds
- Opportunities in investment grade & high yield corporate bonds
…and propose investment strategies for their area of expertise, e.g.
- Sector allocation#
- Duration
- Market specific yield curve strategies
- Currency (regarded as a separate asset class, expected to add value through analysis of capital flows, market positioning, both technical and fundamental analysis).
The aim is to identify and exploit the most attractive opportunities in the fixed income universe on a global scale in order to maximize returns, albeit in a controlled risk environment.
Portfolio Construction
- Risk is managed using the concept of Value-at-Risk (VaR)*
- Considering legal restrictions & investment guidelines we build the fund portfolio
We pursue two investment styles in this investment vehicle: - momentum/opportunistic (shorts, currencies)
- value (bonds, especially Emerging Markets)
Holding period is linked to tolerated loss/target profit, not time. Historically our frequency of adjustment implies a turnover of 250% p.a.
Use of Cash
Cash can be used on a tactical basis to actively manage the fund’s interest rate sensitivity. The Luxemburg UCITS III regulation limits holding cash to a maximum of 49% of the NAV.
How we manage risk
- Risk management is an integral part of our investment process.
- We measure the ex-ante risk by using the concept of Value-at-Risk (VaR)*
- VaR predicts potential losses of an asset by using statistical and simulation models designed to forecast the expected volatility of an asset.
- VaR calculated by RiskMetrics Software is used to manage the risk of the JB Absolute Return Bond Fund
- The possibility of incurring a loss away form the return target of more than 6% is reduced to a probability of less than 1% over one year with a 99% confidence level.*
* VaR figures are expressed before costs and are calculated by applying an industry-standard risk forecasting model (RiskMetrics). By their very nature VaR figures estimate the size of a typical large loss.
Risk management by means of limiting VaR provides no guaranteed downside protection i.e. actual realized losses can occasionally exceed the VaR threshold. Risk forecasting provides no information about expected returns i.e. actual realized returns may deviate from return expectations.
How we generate Absolute Returns
Strategies in Bear Markets
- Decreasing portfolio duration
- Use of interest rate swaps (pay fix – receive floating)
- Short-selling of interest rate futures
- Short-selling of corporate, high yield and emerging markets index derivatives
- Writing of covered / uncovered call options
- Buying put options on interest rates and bonds
- But no short-selling of individual securities
Strategies in Bull Markets
- Increasing duration
- Buying interest rate futures
- Increasing exposure to bonds which offer yield enhancement
Increasing market exposure is achieved by - Using interest rate futures (long)
- Investments in call options (paid premiums max. 15% of NAV)
- But no borrowing for investment purposes
Currency Overlay
- Forward currency transactions
- Currency futures
- Options on currencies
Using additional Instruments
- Credit default swaps
- Total return swaps
- Index instruments (baskets of credit default swaps)
- May be used to quickly and efficiently gain or reduce market exposure in specific markets/sectors.
Investment Outlook
Absolute low level of bond yields are the result of a wonderful, multi-decade, bond bull market. However, these low yields afford little protection against 3 key risks: default, rate hikes and inflation. Traditional investing is becoming increasingly risky, be it money market funds or long-only bond funds. The appropriateness of a fund that has successful experience in mitigating against these risks (to the point of having made positive returns from these sort of risk outcomes) is increasingly pressing.
So conditional curve flatteners, long sovereign vs. short domestic banks in CDS, long credit protection in US commercial mortgages will help protect the fund in a crisis. More probabilistic is the global economic recovery, with ‘risk on’ trades outperforming; to that end, low overall duration, added high yield and convertibles (with downside protection) and emerging market currencies – collectively 30% of the fund - should help performance in coming quarters.
