Monthly Commentary May
GAM Star Credit Opportunities (USD)
In May, the fund reported a capital loss, despite the fact that there were no specific credit events. Political worries concerning Italy had some influence on prices; this led the market into a ‘risk-off’ environment, which was reflected in setbacks for a wide variety of holdings. Despite having no exposure to Italian issuers, the fund was not immune to price volatility.
This creates opportunities for long-term investors as spreads have widened significantly above fair value and do not reflect the strong underlying credit quality of issuers held in the portfolio.
Currently, many of the HSBC contingent-capital securities yield well over 6% to the calls within 5 to 10 years and represent, in our view, excellent value relative to the 10-year bond (which yields less than 3%).
The fundamental results of our companies, both banks and insurers, generally continue to show good progress in their multi-year process of capital strengthening. This reinforces their value within the context of historically-wide credit spreads.
The income offered by our portfolio continues to provide an attractive return and the fund is well positioned for an environment of potentially higher rates by owning more than 50% in fixed-to-floaters and almost 15% in discounted floating-rate notes, as well as a number of high-coupon securities with relatively short issuer call dates. There are a wide number of securities where it is possible to lock into attractive yields going forward.
GAM Star Credit Opportunities (GBP)
During May, prices suffered from a ‘risk-off’ environment pervading the markets; the fund lost some value while the 10-year Gilt yield decreased from 1.42 % to 1.23%. Many of the bonds in the portfolio had price declines of 1-5%, irrespective of their credit quality and positioning within the capital structure. This has meant that the yield-to-worst on the fund has increased from 4.58% to 4.74%, including many holdings in lower-yielding, floating-rate notes.
During the month, a variety of holdings were purchased: these included AT1 cocos of HSBC (where we captured a spread of 420 bps); Julius Baer and Lloyds Bank (both at spreads above 300 bps); Direct Line Group junior securities; and a wide range of other bonds, in smaller size.
The fundamental results of our companies, both the banks and the insurers, continue to show progress in their multi-year process of capital strengthening. This reinforces their value within the context of historically-wide credit spreads. The income offered by our portfolio continues to provide an attractive return, as well as potential for capital gains.
GAM Star Credit Opportunities (EUR)
In May, the fund significantly declined, despite there being no specific credit event. Political worries concerning Italy had some influence on prices and led the market to a ‘risk-off’ situation, which was reflected by setbacks across a wide variety of holdings. Examples include the 5.25% HSBC and 4.75% Santander tier 1 coco bonds, whose prices declined by 4% and 7%, respectively. This resulted in a spread of more than 400 bps for the HSBC holding, and more than 600 bps for Santander. Furthermore, the Ageas floating-rate notes, which provide a yield of Libor plus 135 bps, declined from 70.45% to 66.44%.
There was, therefore, a market adjustment, irrespective of securities’ credit quality or positioning within the capital structure.
During the month, we have tried to capitalise on price declines in some of our holdings, while selling others such as the 5.125% Tesco 2047 denominated in euros; the latter’s price has risen 25 bps since purchase, in addition to the coupons paid out over the last three years – this has resulted in a total return of more than 15%.
We see many securities that are undervalued and we will continue to take advantage of any additional price volatility. Spreads have widened significantly above fair value and do not reflect the strong underlying credit quality of the issuers held in the portfolio.
Therefore, current compelling valuations represent an opportunity for long-term investors. Our fixed-rate bond yields are well above 4% in euros and we continue to add to our discounted floating-rate notes, where prices are now very attractive.
14 June 2018
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