The structured credit market is the place to be when it comes to investing in credit from a long/short perspective, Franklin K2’s Charmaine Chin has told Citywire Selector.
Chin, who co-runs the Ucits version of the Franklin K2 Long Short Credit fund, said the structured positions had been the strongest performers for the fund over the last 12 months.
'Last year credit markets were generally up and there were very few volatility events, so it was really the long positions that generally did well for us.
'All five sub-advisors did well for us, but it was structured credit which delivered the highest performance.
'Chatham AM and Apollo - which were 20.38% and 21.71% of the portfolio, respectively as at December 2017 - both generated positive performance for some of their long positions in the media sector and in home builders.'
Short, sharp success
Different sectors across the spectrum performed well for the fund, but Chin said a small bout of volatility in November last year meant some sub-advisors’ shorts started to kick in.
'Healthcare and tech got a little bit hit in November 2017 and some sub-advisors took shorts in the pharmaceuticals sector, which worked well.
'There were also some shorts in the auto sector, and it's those brief periods of volatility when our managers are monetising shorts.
'In the structured credit space, RMBS has been the biggest driver of performance and it is our largest exposure within the structured credit bucket. This represents 38.49% of the portfolio as of December 2017.'
Chin also said the trend for delinquencies and defaults has gone down, which has increased interest in the L/S credit space.
Chin is currently overweight the L/S credit part of the fund, which accounts for 42.09% of exposure.
However, she said, as markets become more volatile, there will be more dispersion between the various sectors in the alternative credit market.
'That's when alternative credit funds will really shine versus the rest of the credit universe. Because yields have been so low, the high yield markets have never been more duration sensitive. Investors should be more focused on duration risk in the credit markets than credit spread risk.
'Corporate credit markets in Europe are very sensitive to yield changes, which is why I think there is so much duration risk in the market.
'Investors are aware of that but, until it starts to really hurt and they start seeing losses in their portfolio, they are generally unlikely to take or make large changes.'
'We have seen investors try to tilt towards floating rate securities, such as leveraged loans, there's been a lot of inflows in that space. Fixed income has been a safe haven for investors for so many decades that that's the mind-set that people have.
'People are wary of equities because of valuations, which is one of the reasons why people have stayed in high yield for so long,’ she added.