High yield debt will come under pressure over the next few years as it becomes more expensive to raise debt due to higher interest rates, according to Bryn Jones.
Speaking to Citywire Selector, the head of fixed income at UK group Rathbone, said there was around $1 trillion of debt which needed refinancing in the high yield sector.
'Companies come into the market to raise debt, they are going to be doing so into an environment where yields are a lot higher,' he said.
'They are trying to raise debt at a time when people might be looking in their pockets and not being able to find so much money because they are having to service their own debt.'
Jones said this could see revenues of these businesses starting to drop quite quickly, as their interest margin goes up and then you get pressure on the balance sheet from both ends.
'Your margins get squeezed and you might not start making profits. If you are trying to raise cash in an environment where your profits are very low, then you might have to pay up for it or people might walk away and you might default.'
Jones, who runs the Rathbone Ethical Bond fund, which is included in the group's Ucits push, said he held no high yield debt in the fund, but believed this year was the last investors could find decent high yield credit in the market.
In terms of holdings, the largest sector allocation in the fund is insurance at 40.30% followed by banks at 28.59%. Some of the biggest company holdings include TSB Banking Group (1.84%) and pensions provider Scottish Widows (1.89%).
Jones has been increasing holdings in these sectors as banks have been improving their balance sheets and wants to take advantage of spread differentials.
'You have had the ECB buying the corporate bonds through the CSPP scheme and the Bank of England using the asset purchase facility for the corporate bonds.
'That has forced corporate bond yield spreads lower. If you think about post-QE world when central banks are going to stop buying corporate bonds, what is going to happen to those spreads?’
Jones said it is a case of supply and demand, which will ultimately see yields going to rise.
'As a result of that we prefer financials now until the central banks decide to come off the pedals, there will be some increased yields and we will cycle back out of financials into a few corporates again,' Jones said.
Securities in the fund undergo a strict screening process to meet the ethical criteria of the fund. However, Jones warned the categories of some bonds might be misleading.
'We don't specifically buy bonds because they have been labelled green. For example EDF and Unilever have both got green bonds, but they might not necessarily pass our screening. Unilever might be retro fitting a building which is being used for animal testing,' Jones said.
'EDF might be issuing debt and we don't have nuclear power as part of our screening. Just because somebody else labels them green, doesn't necessarily mean that we think they are green.'
Over three years to the end of February 2016 the Rathbone Ethical Bond fund returned 18.50% in pounds sterling terms. This compares to a rise of 23.65% by its Citywire-assigned benchmark, the Markit iBoxx Sterling Non Gilts Overall TR, over the same time frame.