How we did in November: The fund returned between 3.3% and 3.7% across the different share classes, compared to EUR HY (BAML HE00 Index) 3.7%, US HY (BAML H0A0 Index) 1.9% and EM sovereign credit (BAML EMGB Index) 7.9%. Performance in November, gross of fees in EUR, was: (i) Credit: 371bps, with 366bps from cash and 6bps from CDS; (ii) Rates: -23bps; (iii) FX: 4bps, (iv) Equity: 24bps and (v) Other: -1bps
November was a strong month for risk, as US inflation significantly dropped, leading to broad market gains. The strongest gains took place in credit, as rates stability led to broad spread tightening. Hopes of China re-opening added to a less hawkish outlook for the Fed, helping the US dollar weaker vs global currencies.
What are we doing now: The fund continues to be long credit and has added duration recently. In credit, the focus remains on high grade bonds.
The fund is 80% net invested in credit and has a total duration of 2.4y. The Fund’s blended YTM is 6.9%.
Credit remains cheap vs micro fundamentals and the macro environment. The flow picture is improving fast, and will continue to do so in 2023.
2023 will be a year of moderate slowdown and disinflation in developed markets. Interest rates will be more stable as a result.
We focus on quality credit across areas, as rates stability will boost demand for this segment, but the slowdown creates risk down the quality ladder.
Net credit investment was raised in July, and has just marginally come off over the past month.
Fund duration is close to its highest levels in 2022 (having been close to 0 earlier in the year).
GCO duration is 63% of the cash book duration, meaning room to increase it further.
On the cash credit book, we focus on quality, low leverage names across credit asset classes, with bonds yielding 7-8%, gaining exposure to high market beta with low individual credit risk.
Higher risk/reward positions are held in AT1 bonds.
We focus on senior and tier 2 credits in US financials, AT1s in European financials, Telcos/quality in corporates and BBB/BB USD sovereigns in EM.
We have been exiting rates hedges and long USD trades. We added some longs in EM rates and some short USD expressions.
Shorts focus on the consumer and real estate sectors in Europe and countries with high refinancing needs in EM.
Gross exposure in the fund is 137%. The credit short book is 25%, of which 15% in cash credit and 10% in CDS.
Financial Credit Strategy
November was a strong month for risk assets as incoming macroeconomic data hinted that inflation may be close to peaking if it has not done so already. US Treasuries rallied strongly following the weaker than expected CPI print for October, pushing the S&P 500 to its best daily performance since April 2020 and November’s +5.6% gain brought this quarter’s performance to over 14%. Similarly in Europe, a lower than expected (albeit still elevated 10%), Euro Area flash CPI print helped drive the Eurostoxx 600 +6.8% higher.
In credit markets, positive performance was driven by both rates and spreads. Expectations of a slower pace of (and perhaps fewer) rate hikes by the Federal Reserve fuelled a flattening of 20-30bps in core rates’ curves with periphery having a more pronounced 30-40bps move. Across European banks’ capital structure, in November average Senior spreads rallied 60bps, subordinated 90bps, and AT1s +3pts. European banks’ equity indices rose 9% on the month and are now back in positive territory YTD in stark contrast to broader equity indices.
November brought the close to the Q3 reporting season. Net interest income for the sector grew an impressive +9% QoQ and +24% YoY, in effect the key contributor to the sector’s beat in revenues (+4%) and pre-provision profit (+7%) versus consensus as financials remain the best positioned to benefit from higher Central Bank rates. Capital surprised positively by being flat QoQ against expectations of a 10bps sequential contraction due to market headwinds, which we expect to reverse into year-end given spread moves. Separately, in its annual update of the list of global systemic banks (‘G-SIBs’) the Financial Stability Board announced that BNP’s core equity Tier 1 requirement fell by 0.5% to 1.5% which moved the bank down a “bucket” as expected.
Banks continued to optimise their capital structures with several corporate actions announced, including an OpCo Tier 2 clean-up (HSBC), a consent solicitation on legacy preference shares (Standard Chartered), a potential tender on core capital deferred shares (Nationwide), and a 180bps higher reset exchange offer on an extended Tier 2 (BCP). Additionally, UBS took the decision to call an AT1 security that had the lowest reset rate across the existing European AT1 universe as it had excess capital having issued at the start of this year and solid profitability trends YTD. All these actions are constructive for the AT1 asset class and further supports its robust investment case.
On the back of the positive momentum in risk assets, issuance picked up significantly from October and at EUR70bn was the highest in the last five years. Unsurprisingly c.80% of the total was in Senior format and the technical here remains overwhelming with YTD issuance some 50% / EUR130bn higher than last year and secured format tripling in size. Although EUR15bn capital issuance was quite active, three-quarters was focused in Tier 2 format as instruments began to lose full capital benefits and needed to be refinanced. The higher spread (and yield) of capital instruments, combined with more subdued issuance plans vis-à-vis Senior, in large part explains why on a beta-adjusted basis it remains our preferred choice across the capital structure.
Financial Equity Strategy
Equity markets continued to rally in November 2022, fuelled in large part by a soft CPI print in the US and rising investor optimism around the end, or at least a meaningful slowdown of, inflationary pressures and central bank tightening coming into view. The MSCI ACWI was up 7.6% while bond yields were generally flat to down and overall market volatility abated with the VIX finishing November near the lows of the year. Financials slightly outperformed the broader market with the ACWI Fins ending the month up 8.5% as bank and capital markets company valuations benefitted from growing risk-on sentiment, investor hopes for an economic soft landing, and a reduction in the extreme volatility of September and October.
The Financial Equity Fund returned 6.0% in November and is now up 10.4% on the year compared to (7.0%) for the ACWI Fins Index. In an extension of the trends of October, European banks performed strongly and the fund saw significant positive contributions from Santander, BNP, ING, and Standard Chartered among others as the thesis of rapidly growing net interest income and earnings upgrades from higher short-term rates continued to play out. European banks remain a core portion of the portfolio as they remain not only cheap on both a relative and absolute basis but are also well positioned to withstand an increased cost of risk should there be an economic downturn while returning ample amounts of capital (ex. > 40% of market cap) to shareholders over the next 2 years. Chinese insurance company Ping An, which we accumulated while shares were trading < 4x EPS and with a nearly 9% dividend yield, was also an outsized winner as shares rallied 50% on increasing optimism that China will end its Zero COVID policy and economic activity can begin to resume more normalized levels.
US banks also trudged higher during the month, albeit at a slower pace than European peers. We further scaled back our exposure to US money centers after a tremendous rally that started with 3Q earnings beating expectations across the board on net interest income, capital levels, and asset quality and continued into November, resulting in valuations that, while still attractive, are not as screamingly cheap as they had been just a short while ago. Our focus in the US bank space is on the mid and small regionals, especially those banks that possess both offensive and defensive levers to pull in this environment. One such bank is Citizens Financial Group. Since new management took over in 2013, Citizens has dramatically improved its deposit base, broadened its lending and fee product set, and instilled a cost and efficiency discipline that positions the bank well to outmaneuver peers as the operating environment evolves. The company has continually exceeded expectations on income and return on equity yet trades at a steep and underserved discount to other US regional banks on both P/E and P/TBV; we think this should narrow as the company is well-positioned to defend its NIM and NII as well as manage costs despite inflationary pressures. Outside of banks, the biggest winner in the US book was alternative asset manager Carlyle Group, which rallied strongly on the back of improving debt and equity markets. We believe Carlyle remains significantly undervalued relative to its sizeable net accrued carry, go-forward fee generating capabilities, and overall franchise value; moreover, the company is well positioned to put its ample dry powder to work across multiple asset classes, and we believe the announcement of a new CEO should serve to remove an overhang on the stock.
Global credit strategy
How we did in November: The fund returned between 3.3% and 3.7% across the different share classes, compared to EUR HY (BAML HE00 Index) 3.7%, US HY (BAML H0A0 Index) 1.9% and EM sovereign credit (BAML EMGB Index) 7.9%. Performance in November, gross of fees in EUR, was: (i) Credit: 371bps, with 366bps from cash and 6bps from CDS; (ii) Rates: -23bps; (iii) FX: 4bps, (iv) Equity: 24bps and (v) Other: -1bps
November was a strong month for risk, as US inflation significantly dropped, leading to broad market gains. The strongest gains took place in credit, as rates stability led to broad spread tightening. Hopes of China re-opening added to a less hawkish outlook for the Fed, helping the US dollar weaker vs global currencies.
What are we doing now: The fund continues to be long credit and has added duration recently. In credit, the focus remains on high grade bonds.
Financial Credit Strategy
November was a strong month for risk assets as incoming macroeconomic data hinted that inflation may be close to peaking if it has not done so already. US Treasuries rallied strongly following the weaker than expected CPI print for October, pushing the S&P 500 to its best daily performance since April 2020 and November’s +5.6% gain brought this quarter’s performance to over 14%. Similarly in Europe, a lower than expected (albeit still elevated 10%), Euro Area flash CPI print helped drive the Eurostoxx 600 +6.8% higher.
In credit markets, positive performance was driven by both rates and spreads. Expectations of a slower pace of (and perhaps fewer) rate hikes by the Federal Reserve fuelled a flattening of 20-30bps in core rates’ curves with periphery having a more pronounced 30-40bps move. Across European banks’ capital structure, in November average Senior spreads rallied 60bps, subordinated 90bps, and AT1s +3pts. European banks’ equity indices rose 9% on the month and are now back in positive territory YTD in stark contrast to broader equity indices.
November brought the close to the Q3 reporting season. Net interest income for the sector grew an impressive +9% QoQ and +24% YoY, in effect the key contributor to the sector’s beat in revenues (+4%) and pre-provision profit (+7%) versus consensus as financials remain the best positioned to benefit from higher Central Bank rates. Capital surprised positively by being flat QoQ against expectations of a 10bps sequential contraction due to market headwinds, which we expect to reverse into year-end given spread moves. Separately, in its annual update of the list of global systemic banks (‘G-SIBs’) the Financial Stability Board announced that BNP’s core equity Tier 1 requirement fell by 0.5% to 1.5% which moved the bank down a “bucket” as expected.
Banks continued to optimise their capital structures with several corporate actions announced, including an OpCo Tier 2 clean-up (HSBC), a consent solicitation on legacy preference shares (Standard Chartered), a potential tender on core capital deferred shares (Nationwide), and a 180bps higher reset exchange offer on an extended Tier 2 (BCP). Additionally, UBS took the decision to call an AT1 security that had the lowest reset rate across the existing European AT1 universe as it had excess capital having issued at the start of this year and solid profitability trends YTD. All these actions are constructive for the AT1 asset class and further supports its robust investment case.
On the back of the positive momentum in risk assets, issuance picked up significantly from October and at EUR70bn was the highest in the last five years. Unsurprisingly c.80% of the total was in Senior format and the technical here remains overwhelming with YTD issuance some 50% / EUR130bn higher than last year and secured format tripling in size. Although EUR15bn capital issuance was quite active, three-quarters was focused in Tier 2 format as instruments began to lose full capital benefits and needed to be refinanced. The higher spread (and yield) of capital instruments, combined with more subdued issuance plans vis-à-vis Senior, in large part explains why on a beta-adjusted basis it remains our preferred choice across the capital structure.
Financial Equity Strategy
Equity markets continued to rally in November 2022, fuelled in large part by a soft CPI print in the US and rising investor optimism around the end, or at least a meaningful slowdown of, inflationary pressures and central bank tightening coming into view. The MSCI ACWI was up 7.6% while bond yields were generally flat to down and overall market volatility abated with the VIX finishing November near the lows of the year. Financials slightly outperformed the broader market with the ACWI Fins ending the month up 8.5% as bank and capital markets company valuations benefitted from growing risk-on sentiment, investor hopes for an economic soft landing, and a reduction in the extreme volatility of September and October.
The Financial Equity Fund returned 6.0% in November and is now up 10.4% on the year compared to (7.0%) for the ACWI Fins Index. In an extension of the trends of October, European banks performed strongly and the fund saw significant positive contributions from Santander, BNP, ING, and Standard Chartered among others as the thesis of rapidly growing net interest income and earnings upgrades from higher short-term rates continued to play out. European banks remain a core portion of the portfolio as they remain not only cheap on both a relative and absolute basis but are also well positioned to withstand an increased cost of risk should there be an economic downturn while returning ample amounts of capital (ex. > 40% of market cap) to shareholders over the next 2 years. Chinese insurance company Ping An, which we accumulated while shares were trading < 4x EPS and with a nearly 9% dividend yield, was also an outsized winner as shares rallied 50% on increasing optimism that China will end its Zero COVID policy and economic activity can begin to resume more normalized levels.
US banks also trudged higher during the month, albeit at a slower pace than European peers. We further scaled back our exposure to US money centers after a tremendous rally that started with 3Q earnings beating expectations across the board on net interest income, capital levels, and asset quality and continued into November, resulting in valuations that, while still attractive, are not as screamingly cheap as they had been just a short while ago. Our focus in the US bank space is on the mid and small regionals, especially those banks that possess both offensive and defensive levers to pull in this environment. One such bank is Citizens Financial Group. Since new management took over in 2013, Citizens has dramatically improved its deposit base, broadened its lending and fee product set, and instilled a cost and efficiency discipline that positions the bank well to outmaneuver peers as the operating environment evolves. The company has continually exceeded expectations on income and return on equity yet trades at a steep and underserved discount to other US regional banks on both P/E and P/TBV; we think this should narrow as the company is well-positioned to defend its NIM and NII as well as manage costs despite inflationary pressures. Outside of banks, the biggest winner in the US book was alternative asset manager Carlyle Group, which rallied strongly on the back of improving debt and equity markets. We believe Carlyle remains significantly undervalued relative to its sizeable net accrued carry, go-forward fee generating capabilities, and overall franchise value; moreover, the company is well positioned to put its ample dry powder to work across multiple asset classes, and we believe the announcement of a new CEO should serve to remove an overhang on the stock.