We already own quite a bit of preferred shares issued by Annaly Capital Management (NLY), but I'm re...
Global High-Yield Bonds Can Work for You
04/09/2012 6:30 am EST
Fund manager Greg Hopper explains how he determines the mix of corporate vs. sovereign bonds, as well as the geographical distribution. He tells MoneyShow.com why investors should view high-yields as a separate asset class.
Greg, why don't we start out today by you telling us a little about the fund's objectives?
Greg Hopper: Sure. What we are aiming to do is really create a high total return that really reflects an investment in a truly global portfolio of credit risk. Which historically has been, first of all, US high-yield bonds, but above and beyond that, and what one would normally probably be exposed to and what has historically been a high-yield bond fund, we will also invest in European high yield.
We will invest in loans, for example, and we will invest in emerging-market credit of various sorts.
Kate Stalter: Let's talk a little bit about the breakdown between corporate and sovereign. How do you determine that?
Greg Hopper: Well, again, we are seeking high current income, and normally we would want to get that when we look at the emerging markets world from corporate bonds.
Normally that would be hard currency corporate bonds-in other words, either euros or dollars. But occasionally what we discover is that the risk-return is actually better in sovereigns-either hard-currency sovereigns or sometimes even in local-currency sovereigns in the emerging world.
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So in a sense, we will replace what otherwise might be a corporate exposure with sovereign exposure of one sort or another. This doesn't play a huge role in the portfolio-we are talking something in the order of 5%, plus or minus. But it is an important component of diversifying the risk away from just pure high-yield credit risk that you would get if you were just investing in the US.
Kate Stalter: Let's take that question of the breakdown of the holdings a little further, and talk about regions. What regions are you heavily weighted in at the moment?
Greg Hopper: Well, both now and historically, make no mistake about it: The core of credit risk globally is still the US, so our weighting in the US is roughly 60% to 70% at any one time.
But then away from that, we would normally have a weighting in Europe. Right now, our weighting in Europe is approximately 15%. It has been higher; it is higher on the index that we benchmark ourselves against. But obviously because of what has been going on there, we have been pulling that back a little bit, both in terms of overall percentages as well as in how we are distributed across that continent.
Then away from Europe, we normally have allocations to emerging markets. Right now, that runs about 7%, and there again, it is broken down between both corporates and sovereigns.
That is sort of a rough breakdown geographically, but I think it is also important to recognize that another way we try to diversify credit risk is by moving up and down the balance sheet. So rather than just buying bonds, for example, we will buy loans. Right now, about 12% to 14% of the portfolio is in loans, and that has been both higher and lower over our history.
We will buy what are termed "busted convertibles" at times, although we really have none of those right now, but we will occasionally buy busted convertibles. In other words, convertibles that are trading primarily on their yield, rather than their equity conversion possibilities.
I would say in all of these moves that we make to diversify the more standard US high-yield bond risk, we make an effort to not, as I say, "have the tail wag the dog." So we don't want this to become a convertible bond fund, for sure, in drag, or even an emerging-market fund in drag.
To get back to what I said in the introduction, what we are really trying to do is create a truly diversified source of yield that comes from taking on credit risk globally.
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Kate Stalter: Would there be different holding periods that would be typical for the different types of debt instruments that you are using?
Greg Hopper: I would say probably not. We like to call ourselves investors and not traders, so we try to hold onto our positions for as long as possible. In some cases, that can be upward of four and five years.
In other cases, it might be shorter-sometimes we have bonds tendered away from us, which is normally a good thing. Occasionally we invest in something and we basically reconsider our initial judgment, and we will turn around and replace that position if we think that is warranted. We really try to hold on to these positions for as long as possible.
Kate Stalter: I wanted to just ask you a little bit about current events. As we are speaking today, there are higher yields after a bond auction in Spain. How sensitive are the holdings in your fund to some of these European worries that are continuing?
Greg Hopper: Because we do, in fact, take a global approach to our asset class, we are almost by our nature exposed to Europe, and that will have an effect on our fund, both positive and negative.
We have been fairly conservatively positioned in that part of the world since at least the middle of last year. We are trying to avoid for the most part, credits that are in the periphery of Europe.
We are trying to position ourselves in credits that are domiciled in countries like the UK, which we believe has more control over its own fate, as well as in credits, such as health care and cable, that are in more stable industries, even if they might be in Europe. And there we would be looking at the core of Europe. That, I think, has served us fairly well.
I should also add that we do take on currency risk when we go out overseas, and we may or may not hedge that currency back. In the case of Europe, at this point, we are hedging the euro back entirely.
So again, we are being fairly conservative about how we approach it, but we believe there is really opportunity being thrown out with the bath water here, and we want to take advantage of that for the long run.
Kate Stalter: The last question I have for you today, Greg: How should your fund be positioned within an overall portfolio of equity and debt instruments?
Greg Hopper: That is actually one of my favorite questions. I think most investors look at high-yield bonds as bonds, which the name would suggest you should.
But in reality, if you look at how the asset class behaves, it behaves a little bit like equities and a little bit like bonds. In many ways, it is not a bond; it's more of a substitute, I would say, for high-dividend equities. It is senior in the capital structure to equities, and for that reason can be safer. And historically it has been less sensitive to interest-rate moves, so in that sense it is not quite like a normal bond.
What it is sensitive to, obviously, is credit events. In other words, a company that just goes from a going concern to a bankruptcy in very quick order. And that is what we spend a lot of our time trying to defend against.
But it is really a third asset class between bonds and equities. It provides high current income, and therefore is probably best thought of as a high-income asset class, perhaps a substitute or something that would go along with an investment in high dividend equities and obviously more high-quality bonds.
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