Prudent seek a friend in flexibility

Fixed income allocations remained broadly stable in the November rebalancing, but a shift to strategic bond funds in the AFI indices reflects uncertainty over the inflation-deflation debate.

Ben Willis, the head of research at White­church Securities, says: “Last year there were exceptional opportunities in fixed income, but generally there has been so much focus on short-term macro data in recent years it’s been difficult. We go with strategic bond funds because you don’t have to make a call on where the market is going. Your average investment manager simply doesn’t have the ability to analyse the market that a specialist can offer.”

Certainly some of the funds in the Investment Management Association Sterling Strategic Bond sector have appeared to justify this conviction. The L&G Dynamic Bond trust, managed by Richard Hodges, returned 54.61% over three years to November 23, according to Financial Express.

For the sector as a whole, however, the picture is less clear cut. Over the past three years the average fund in the sector returned 12.94%, marginally outperforming the Sterling Corporate Bond sector return of 11.56% and significantly underperforming the Sterling High Yield sector return of 23.21%.

For some, sitting comfortably between those two benchmarks reflects exactly what the managers of these types of products should be doing. Their role, many would claim, is to beat the return on holding a traditional product while ­reducing the volatility associated with the higher-risk area of the market.

The performance cushion between the Sterling Strategic Bond and Sterling Corporate Bond sectors, to account for the additional risk of including high-yield assets, is not perhaps as large as many would be comfortable with. Of course, as shown with the L&G fund, this must be addressed on a case-by-case basis as managers will take on different levels of risk in various investment climates.

Indeed, these products can also be included alongside more traditional investment grade bond funds or high-yield products to act almost as a hedge.

“In the Cautious portfolio we use some corporate bond exposure alongside our strategic bond holdings,” Owen says. “Also, when the market had reached near-extreme ­levels we put some money into high-yield for our more adventurous clients.”

Although doubts were voiced over how far portfolio diversification could protect investors during the crisis, this issue has moved firmly back on to the agenda. Strat­egic bond funds can play a key role, provided advisers under­stand the strategy used by the manager to generate returns and can reconcile it with the risk profiles of their clients.

That strategic bond funds have become a core part of the AFI portfolios is undeniable, and the trend looks likely to continue for some time to come. Whether it will endure if the bond markets start to normalise is yet to be seen, but the solid performances of several of these products has given many investors ample proof of their value.