February was rapidly consigned to the history books as a result of the US-Israeli attack on Iran and the subsequent retaliation on the last weekend of the month. The uncertainty now present will likely drive markets for the foreseeable future with volatility the result.
Typically, such volatility doesn’t make for good conditions for new bonds to be issued, but there is apparently a fair backlog to get through after Lunar New Year, and the sheer weight of money needing to be raised and deployed may break this paradigm.
In February yields retraced some of their rise over the main summer period, with Australian 10-year bond yields slightly lower than the start of the month, despite US yields being markedly lower at ~25 basis points below their January close.
This reflects the differing positions of their central banks – the Reserve Bank of Australia (RBA) governor mentioning that the March meeting should be considered live and if one thing is certain the discussion won’t be about cutting…
There were a number of new issues we looked at during the month, some of which, as usual, we included and some of which we let go to the keeper. More below.
Conservative portfolio:
This portfolio is all investment grade and all AUD.
The current portfolio yields 5.94% and consists of ten bonds of roughly equal weight by value to total an approximate $510k spend.
CBA priced a large three-part subordinated issue with the standard 5-year to first call structure in both fixed and floating rates and finally got on the 20-year fixed rate bullet (hard maturity no call) tenor.
Whilst we always look to minimise exposure to financials over true corporates, the A- rating and relatively attractive yield from CBA was too good to refuse. We switch out the three notch lower rated Aurizon floating rate note for the CBA, which improves the credit quality but doesn’t lower the yield due to the 1-year extra tenor.
We would much rather take an extra year’s tenor at A- with no extension of duration due to both bonds being floating than the higher credit risk with spreads at decade tights.
The 20-year fixed bullet was attractive at 6.40% but the duration of this portfolio is already over four so reluctantly we passed in favour of the floating rate option.
UBS returned to the market much quicker than most had expected, issuing another AT1, this time with a coupon well over 7%. For the extra year on this one we are quite happy to enjoy the higher yield compared to the previous issue and simply swapped the old for the new.
Balanced portfolio:
The Balanced portfolio adds higher yielding bonds to the base Conservative portfolio to achieve a higher yield, while maintaining a balance between risk and return, skewed towards preserving capital rather than chasing yield.
It aims to have between 15-20 positions, with the high yielding bonds in smaller parcel sizes (comprising 31% of the total portfolio) to reflect their riskier nature.
The current portfolio has 15 bonds, yields 6.54% and is an approximate $585k spend.
This portfolio, by virtue of the high yielding allocation, has a shorter duration than the Conservative portfolio.
We made the UBS like-for-like switch mentioned above, but this portfolio did not hold the Aurizon floating rate note, so we couldn’t add the new CBA equivalent.
As we reiterate often, one of the beauties about solid bond portfolios is that they don’t have to be changed all the time – only when superior value is on offer.
We can sit tight with just the single change and enjoy the 6.4% income offered by this portfolio until the market presents us with better options.
High-Yield portfolio:
The High Yield portfolio looks to generate a higher yield while still looking to have a bias towards as low-risk positions as possible.
This is achieved by good diversification and attempting to identify fundamentally mispriced bonds.
The current portfolio has 17 bonds, yields 7.21% and is an approximate $500k spend, demonstrating the concept of greater diversity in higher risk positions.
Another month with no new high yield issuance.
As a result, the portfolio is carrying a number of bonds with a yield only a touch over 6%. In a portfolio of higher credit risk with credit spreads at or near decade tights, this might end up being a good strategy, especially since the portfolio yields a solid amount over 7%.
One of these bonds is the Clearview 2030 callable subordinated note. Clearview recently agreed to a takeover by a subsidiary of A- rated global insurer Allianz, which has markedly increased the price and decreased the yield on offer. We will look to replace this when new options present.
Income of 7.61% also makes for a very comfortable bed to lie in while we wait.
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