As befits a fixed income manager with almost half his fund allocated to the UK, Anthony Smouha, CEO of Atlanticomnium, has taken a very clear position on Britain’s future in the EU. He cannot understand how any good thinking Englishman would vote for Brexit.
However, the Citywire AA-rated manager, who oversees a range of GAM funds, including its Star Credit Opportunities strategy, is well aware that the wider financial world is not on such sure footing when it comes to this issue. Uncertainty, he believes, will dominate the near future.
‘You don’t know what markets are going to do. They could go down in the short term, but it is not going to affect anybody immediately. It is a high level, longer-term process. Historians will write about it and will say that those people who voted for Brexit were on the wrong side of history,’ Smouha says.
‘Will it be catastrophic for our credits? No. I think the UK will continue growing, one will have to live with it. It will have much longer-term implications and that is part of the reason underlying the argument why I think that there should not be a Brexit.’
Smouha has 42.6% of his $1.2 billion (€1.08 billion) GAM Star Credit Opportunities fund allocated to the UK and thinks the international outlook for businesses in his portfolio will offer some protection in the event of Britain leaving the EU.
‘Although we have a heavy weighting in the UK, most of those names are global franchises. Aberdeen Asset Management, HSBC, Prudential, Aviva, many of these UK-based companies are top players in the global market. Even if there is a Brexit, they will remain leaders on the global stage.’
While the UK is the main focus of the fund, Smouha has 8.4% of the portfolio allocated to France. French-based names the manager holds include financial services firm BNP Paribas, which is the fifth largest position at 2.7%, as well as other big players in the sector such as AXA.
‘We have more familiarity with European names and in many cases the yields and structures are better,’ he says. Sticking with areas he knows best has helped power performance. In the three years to the end of February, Smouha’s fund returned 17.91% against a rise of 4.82% by the BofA Merrill Lynch US High Yield BB-B Rated TR benchmark.
Banking on interest
Many of the bonds held in his fund are issued by banks. Financials represent the portfolio’s largest holding by sector at 79.4%, while banks as a sub-sector make up 46.6% of the fund. Smouha has recently bought more bonds in mortgage lender HBOS, this now totals 2% of the overall portfolio.
‘This is a very interesting bond because during the period in which Lloyds was told it was not allowed to pay discretionary coupons, the non-cumulative nature of the coupons only kicked in if the bank was insolvent. Effectively it became known as a “must pay bond”, so it always paid its coupons over the years.
‘In terms of risk-adjusted returns, we think this is one of the nicest things to have at the moment because of its high yield of 6.9%. Before you had to pay above 100% and had the risk of the call with a slightly lesser yield. Now, if we are called out we actually get a higher yield because we would get paid back at 100% and we paid only 99%,’ Smouha says.
The manager thinks that banks have improved significantly since the financial crisis and structural changes in the sector will offer a degree of protection should another shock occur.
‘All the banks have strengthened their capital positions. This is a thematic trend mandated by the regulators. If the financial system comes under pressure, there is a much bigger buffer of protection because the capital levels on risk-rated assets are much higher,’ he says.
Despite recent losses from banking giants such as Deutsche Bank and Credit Suisse, Smouha remains positive on the outlook for the sector.
He says that Deutsche Bank has committed to pay the additional tier-1 capital and is able to do so. He thinks that another global recession is likely to have more of an impact on equity holders rather than bond holders.
‘Many of the large universal banks are reshaping their investment activities, so there is a secular change going on. Investors shouldn’t be throwing the baby out with the bathwater because times will be good at again.
‘The leading players will do well and will make good profits, but it will be from reshaped businesses because governments and regulators are being a lot stricter. We are moving away from the early 2000s when there was a more lax economic environment. This is positive from a credit point of view,’ he says.
This is an extract of the article which originally appeared in the April edition of Citywire Selector magazine.