Commentaries

The Increasing Availability Of Data

10 October 2018

Gilles Pradère

RAM (Lux) Tactical Funds - Global Bond Total Return fund - Gilles Pradère Senior Fund Manager, Fixed Income

 

Risk premium in the fixed income space, after increasing during the summer, declined in September. Emerging debt markets bounced from their lows, while safe havens such as German bunds and US treasuries underperformed. High grade corporates, despite a moderate spread tightening, declined also, while high yield benefitted from a lower duration impact and a moderate spread compression.

More information received over the course of the month helped reduce the risk premia, while larger economies continued to deliver robust growth.  

On the trade war front, US and Mexico finally agreed in the final days of August to a revamp of the previous NAFTA, raising hopes that Canada will also join, which ultimately happened in the last minutes of September. In itself, this new USMCA agreement does not seem significantly different from the previous NAFTA. But, it certainly highlights that the US administration is targeting first and foremost China, as it is a potential contender as the world’s largest economy and a strategic rival.

Indeed, the US increased by 200bln the list of products to be tariffed, and China did the same for 60bln, leaving few hopes that a solution for this dispute will happen soon. Nevertheless, with Chinese equities down 20% this year, and with still some months before a next final escalation in 2019, the stress did not intensify. With the economy continuing to exhibit strong growth, USD equities never really blinked, which to some extent has been a surprise. So far the impact of these tariffs, combined with hopes that a solution can still be reached, has been relatively limited on each economies. China is slowly devaluing its currency, which support its exports, amongst other policy measures. But, with the likelihood of a "all in” scenario increasing, it would be presumptuous to exclude that stress would not resurface in the coming months.

The other concern for investors was the Italian fiscal policy. After managing market expectations with below 2% deficit numbers, the government signalled at the end of September a disappointing 2.4% deficit to GDP ratio. The process is ongoing, but outside of a “Italexit" scenario, the risk is perceived as more idiosyncratic than systemic, as Italian government bonds already discounts a downgrade. Longer term though, the risk is that the policy followed does not structurally boost potential growth, leaving Italy vulnerable in a downturn.

 All this information set the scene of relatively strong economies, but with potential large stresses ahead. With spreads generally tight, we continue to be very attentive to the robustness of our portfolio, and opportunistically look for when we believe risks are better repriced.

Our traditional portfolio delivered –0.10% (gross of fees), as the spread compression of various exposures combined with a moderate duration compensated partially for the increase in rates. We took the opportunities of spreads compression in USD to switch exposures in EUR where spreads are much more appealing. We also made a moderate increase in European Bank subordinated which are at offering a decent yield after the first half correction. On the contrary, we sold some USD Sub Insurance sector, more exposed to higher yields. We reduced our duration in the process to 2.75 years.

In our non-traditional portfolio, at the beginning of the month we increased our long Spain 15y against France 10y. We finally closed our long US Treasuries versus swaps: this strategy typically underperforms at the end of the year, and the low demand for Treasuries despite the various stresses discussed above is another reason, especially as US fiscal deficit is significantly increasing. Our non-traditional portfolio delivered +0.04% (gross of fees)

Our Fx portfolio contributed +0.13% (gross of fees) this month. Swedish Krona (2% of assets, vs Euro) finally reacted positively to the strong fundamentals, as the central bank started to switch gears. Our CAD exposure (1% of asset) also contributed positively. CAD is still undervalued with respect to the fundamentals, especially in light of the strong oil prices. With the USMCA agreed, we can expect more upside. We have kept both exposures unchanged this month.

At the end of the month, the RAM (Lux) Tactical Funds – Global Bond Total Return Fund (Class B USD) delivered +0.01% net of fees. Duration stands at 2.75 years and the average credit quality was A.

 

*Sources : RAM Active Investments