As our Global High Yield, Global Investment Grade, Multi-Strategy and Absolute Return Credit strategies hit key milestones in June, we assess how they have performed since inception.
The strong performance of our diversified range of high-conviction strategies since their inception has been driven by our dynamic approach to global credit: we focus on relative-value investing across the capital structures of issuers worldwide. This has resulted in an impressive track record of outperformance through market cycles (see Figure 1).
To achieve this, we employ one investment process across our suite of strategies. It combines top-down allocation across the global liquid-credit spectrum with bottom-up, high-conviction security selection enhanced by ESG analysis.
Figure 1: Liquid credit cumulative performance
Past performance is not a reliable indicator of future returns. Source: Hermes as at 31 May 2018. The performance of Hermes Multi-Strategy Credit and Hermes Absolute Return Credit is shown in USD, gross of fees. The performance of the Hermes Global High Yield Credit and Hermes Global Investment Grade strategies is hedged to USD, gross of fees.
The credit strategy meeting establishes an appetite for credit risk by assessing market fundamentals and valuations and determines how to best allocate it across geographies, sectors, rating categories, credit curves and issuer capital structures. These top-down allocations direct our bottom-up credit selection, which is implemented through intensive fundamental credit analysis that includes pricing in ESG risks.
Our dynamic approach, therefore, enables us to identify securities that provide the most value across the capital structure based on our view of the macro environment, market structure and global valuations.
Marking new milestones
This month, our Global High Yield Credit, Multi-Strategy Credit and Absolute Return Credit capabilities mark their eight-, five- and three-year anniversaries, respectively. And in July, our Global Investment Grade Strategy will celebrate its eight-year anniversary. These four strategies aim to:
- Global High Yield Credit: generate a high level of income by investing primarily in a diversified portfolio of high-yield bonds. Since its May 2010 inception, it has consistently delivered top-quartile returns1.
- Global Investment Grade: generate consistent, positive returns with low volatility by investing globally in investment-grade credit instruments.
- Multi-Strategy Credit: capture the majority of the high-yield market’s upside while minimising downside risk.
- Absolute Return Credit: consistently generate positive returns irrespective of the market direction, across asset classes and geographies with an investment-grade risk profile.
Note: targets cannot be guaranteed.
Since the launch of these strategies, we have invested through tumultuous episodes including the taper tantrum, China slowdown in 2015, oil price turbulence, continuation of monetary policy normalisation by the US Federal Reserve (Fed) and periods of geopolitical uncertainty including the Brexit vote, the election of Donald Trump as US President, and most recently US-China trade tensions.
Challenging periods in which our credit capabilities have delivered on their mandates include:
- Volatility is back (2018): In the first half of 2018, credit investors faced a period of heightened geopolitical risk, including the US-China trade dispute, North Korean nuclear tensions, and the re-imposition of US nuclear sanctions on Iran. Such risks contributed to the re-emergence of volatility in February – the fourth largest spike in volatility since 19952. Thanks to our proven investment approach, we were able to navigate through this period with optimal risk management and dynamic sizing of positions as regimes changed.
- Calm between storms (2017): For credit investors, 2017 was largely characterised by rallying markets. In this benign environment, we aimed to optimise the convexity of our credit exposure to maximise upside capture. We increased returns by taking positions further along the credit curve and by finding attractive opportunities in unloved sectors, such as US retail.
- Fundamental focus (2016): Through intensive bottom-up research, we executed contrarian trades such as our investments in the global mining sector in early 2016, which was still experiencing a cyclical downturn. Anticipating creditor-friendly moves by stronger companies to bolster their balance sheets by cutting dividends, reducing capital expenditure and selling assets, we increased our exposure to the sector. Throughout 2016, our exposure to mining companies contributed strongly to our overall return, showing the benefit of favouring fundamentals instead of prevailing sentiment.
- Avoiding the lows of high yield (2015): In Q3 2015, amid growing certainty that the Fed would raise rates for the first time in almost a decade, liquidity fears spurred a global high-yield sell off that drove the market -4.50% lower for the quarter. In the preceding months, we increased our investment-grade credit and leveraged-loan allocation to 30% of the portfolio, and this exposure to higher quality assets preserved capital during a period of market stress and helped drive our 1.05% return for Multi-Strategy Credit in 20153.
- Tapping the good oil (2014): In October 2014, oil prices began to fall precipitously after OPEC refused to halt production despite global oversupply. This adverse impact on the US shale market, where many producers were highly leveraged due to higher operational costs, would soon be felt in the credit market. Two months before oil prices began to slide, we cautioned that investors should be particularly selective in the North America shale oil and gas market as it featured many entrants with uncertain long-term prospects. We avoided these stressed companies and exploited the breadth of our universe by investing in more mature commodity businesses with proven operations and reserves, and in undervalued but robust oil companies in the politically beleaguered Russian market.
- The taper test (2013): In Q2 2013, when the Fed first indicated that it would reduce quantitative easing after almost five years of running the bond-buying programme, the market’s acute sensitivity to changes in US interest rates became clear. Fear of a rate hike had already caused overcrowding in short-duration bonds, and this strong demand allowed issuers to introduce looser covenants and shorter non-call periods. We were unwilling to accept the consequent risks – high valuations, weaker investor protections and diminished upside – and invested in credit default swaps of companies instead to gain a similar short-duration exposure.
A proven track record
Our dynamic approach to global credit has driven strong risk-adjusted returns across our diversified range of high-conviction strategies, as evidenced by their Sharpe ratios4, despite macroeconomic and technical market shocks (see figure 2 and 3).
Figure 2: The performance of our strategies since inception
|Strategy||Inception date||Three-year cumulative returns (gross, USD)||Since inception cumulative returns (gross, USD)||Since inception Sharpe Ratio|
|Global High Yield||1 June 2010||25%||91%||1.2|
|Multi-Strategy Credit||1 June 2013||15%||30%||1.6|
|Investment Grade||1 July 2010||15%||47%||1.3|
|Absolute Return||1 June 2015||7%||7%||1.5|
Source: Hermes as at 31 May 20185.
Although geopolitical risks, US dollar strength, and continued monetary polciy normalisation by the Fed are the key forces at play in the current investment landscape, Hermes Credit will continue to identify strategic and tactical opportunities as it focuses on generating alpha and preserving capital .
Figure 3: Liquid credit net annualised returns
Rolling Performance (net)
|Strategy||31805/17 to 31/05/18||31/05/16 to 31/05/17||31/05/15 to 31/05/16||31/05/14 to 31/05/15||31/05/13 to 31/05/14|
|Global High Yield||2.42%||12.21%||-1.66%||3.36%||10.83%|
|Absolute Return Credit||1.04%||3.55%||0.70%||-||-|
Source: Hermes as at 31 May 2018. Performance shown is in USD, net of fees6.
The value of investments and income from them may go down as well as up, and you may not get back the original amount invested.
It should be noted that any investments overseas may be affected by currency exchange rates.
Where the strategy invests in debt instruments (such as bonds) there is a risk that the entity who issues the contract will not be able to repay the debt or to pay the interest on the debt. If this happens then the value of the strategy may vary sharply in value or result in loss. The strategy makes extensive use of Financial Derivative Instruments (FDIs), the value of which depends on the performance of an underlying asset. Small changes in the price of that asset may cause larger changes in the value of the FDIs, increasing either potential gain or loss.
- 1 Source: Morningstar peer group as at 30 April 2018. Peer Group is the Morningstar Global High Yield Bond – EUR Hedged.
- 2 Bloomberg as at March 2018
- 3 Performance shown is gross of fees for the 12 months to 31 December 2015.
- 4 Note: The Sharpe ratio is a measure of excess portfolio return over the risk-free rate relative to its standard deviation.
- 5 The performance of Hermes Multi-Strategy Credit and Hermes Absolute Return Credit is shown in USD, gross of fees. The performance of the Hermes Global High Yield Credit and Hermes Global Investment Grade strategies is hedged to USD, gross of fees.
- 6 The performance of Hermes Multi-Strategy Credit and Hermes Absolute Return Credit is shown in USD, net of fees. The performance of the Hermes Global High Yield Credit and Hermes Global Investment Grade strategies is hedged to USD, net of fees.