A three-minute guide to strategic bond funds

Strategic bond funds have grown in popularity over the past decade. Back in May 2011 there was £21 billion invested in the sector. Today the figure has doubled to £42 billion*, as investors who appreciate the benefits of taking a flexible approach to fixed income have flocked to the sector.

These funds can invest across the spectrum – from more traditional government and corporate bonds at one end to potentially riskier, high yield names at the other.

It can make them ideal one-stop-shops for investors wanting their fund manager to have the freedom of choosing which area of fixed income is most attractive - this flexibility enables them to increase or decrease their exposure to different bond types, depending on the prevailing economic, investment and political environments.

Difficult comparisons

Of course, given the huge freedom enjoyed by fund managers in this sector, it can be difficult to compare like-with-like as portfolios may look very different from one another. For example, some funds focus on generating an income, while others concentrate on capital preservation. You’ll need to look at the aims and objectives to decide which meets your needs.

They can also vary considerably in terms of the amount of freedom given to the manager, the types of bonds they will consider, the number of holdings, and where they invest geographically.

Performance figures

These different approaches can lead to a disparity in performances. While the best funds in the sector have delivered up to 17% over the past year, the worst are down around 2%**.

It’s a similar story over other time periods. The standout names over three years, for example, have delivered a return of between 26% to 46%, while the weakest performers have lost around 5%**.

Of course, returns may also depend on the success – or otherwise – of individual fund managers. Ideally, they will have a good track recording of delivering returns in a variety of conditions.

Fund choices

There is no shortage of strategic bond funds from which to choose: 80, in fact***. For help narrowing down this choice, you could refer to the Chelsea Selection. Funds on the Chelsea Selection have been individually analysed by Chelsea’s research team and, while we can’t know if these funds are suitable for you, they are our preferred choices in the sector.

And of course, you don’t need to hold just one strategic bond fund. You may prefer to combine different portfolios in order to blend contrasting fund manager styles.

Here are three examples of different styles of strategic bond funds:

Allianz Strategic Bond Fund

This fund is designed to be different. It seeks to outperform the global bond market over a three-year time horizon by taking a truly unconstrained approach. It also has a low correlation to equities.

Mike Riddell, its manager, isn’t afraid to radically overhaul the fund – and this freedom enabled him to re-position his portfolio successfully heading into the coronavirus crisis. He believes the portfolio differs from its peers due to having four core global drivers of alpha: duration, credit, foreign exchange, and inflation. The fund’s process starts with the global macroeconomic outlook. Investment screens then identify mispricing and potential opportunities.

Baillie Gifford Strategic Bond Fund

The Baillie Gifford Strategic Bond Fund aims to produce a monthly income, while seeing opportunities for capital growth. Performance is driven by bond selection and ideas are sourced from both investment grade and high yield, driven by fundamental, bottom-up stock analysis.

The portfolio is also well diversified and usually has between 60 and 80 holdings. It can be characterised as comprising the best ideas across high yield and investment grade markets. The managers aim to add value almost exclusively through their stock-picking prowess and do not aggressively manage the interest rate exposure.

GAM Star Credit Opportunities

This is a high-income bond fund with a unique strategy. The idea is to invest in the ‘junior debt’ of investment grade companies. This allows the fund to generate a good income, whilst still keeping a high-quality portfolio. Junior debt has a lower priority for repayment than other debt claims in the case of a company default and so is higher risk.

The managers of this fund believe the chances of investment grade companies defaulting is low, but they still benefit from the high coupon of the higher yielding junior debt. Many of their best opportunities are found in the debt of banks and insurance companies. The team believes the higher capital buffers enforced by regulators has made these businesses much safer.

*Source: Investment Association, funds under management, May 2011 and May 2021

**Source: FE fundinfo, total returns in sterling to 2 August 2021

***Source: FE fundinfo

Past performance is not a reliable guide to future returns. You may not get back the amount originally invested, and tax rules can change over time. The views expressed are those of the author and do not constitute financial advice.