Royal London Corporate Bond: December 2020 fund update

Joseph Hill | Wed 06 January 2021

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• Co-managers Jonathan Platt and Shalin Shah have over 40 years combined investment experience
• The managers dig a little deeper to find bonds that might be missed by other investors
• The fund has delivered good returns over the long term and the managers benefit from the support of a strong fixed income team at Royal London
• This fund is on our Wealth Shortlist of funds chosen by our analysts for their long-term performance potential

How it fits in a portfolio

We think the Royal London Corporate Bond fund is an adventurous choice for what we see as excellent long-term potential, although this may come with more volatility. For this reason it could work well as part of a portfolio invested for income, focused on the long-term. The managers invest in some high-yield bonds too which could boost the income, but are higher-risk.

Manager

The fund is co-managed by the experienced duo Shalin Shah and Jonathan Platt. Shah has over 10 years’ experience working as part of the fixed income team. Platt is head of the fixed income team and joined the Royal London Group in 1985. He has over 30 years of investment experience over which he’s been key to developing the fixed interest investment process.

We rate the managers and the wider bond team at Royal London highly. They're prepared to invest in parts of the bond market a lot of other investors ignore. Looking for opportunities in under-researched areas like unrated bonds can throw up chances to boost returns, but it can also add risk. Both managers also have management responsibilities on other funds but they’re supported by a very well-resourced team, so we feel comfortable they can handle the workload.

Process

Platt and Shah believe credit markets are inefficient and offer opportunities that active managers can exploit. They start by forming a view on the direction of the economy, taking into account factors such as economic growth, inflation and interest rates. This helps them decide which areas to invest in.

We think the team's edge comes from their detailed research into 'low-profile' parts of the market. These under-researched bonds may be unrated (their credit quality hasn’t been assessed by a credit ratings agency), complex and often secured against a company's assets. Platt and Shah do their own research to check if the quality of these bonds is high enough to be considered for the fund. The managers can potentially add value by looking in this area of the market, but these types of bonds are higher risk, and the lack of credit rating can make them harder to trade, adding liquidity risk, particularly in a falling market. They tend to pay a higher income to compensate for the higher risk.

The fund has a focus on A and BBB-rated bonds, which sit at the lower quality end of the investment grade corporate bond spectrum. The fund also invests in higher-risk high-yield bonds which can add risk. The managers aim to be well diversified through exposure to a range of different sectors. Charges can be taken from capital, which can increase the yield but reduces the potential for capital growth.

The managers' investments in subordinated financial bonds have been helpful in recent months as markets rallied after falls earlier in the year. They feel the yields available on some of these types of bonds are highly attractive, meaning investors are well-compensated for the risk of holding them.

The managers also favour social housing bonds, many of which provide stable cash flows and asset security. They recently bought newly issued bonds from Hyde Group, a non-profit housing organisation.

Platt and Shah think interest rates are set to remain at very low levels with few signs of higher inflation coming through at the moment. They also continue to target the BBB-rated area of the bond market and believe it remains a fertile hunting ground for fixed income investors.

Culture

We believe Royal London’s speciality is in managing fixed income portfolios. Their philosophy is that all well-diversified portfolios should include an element of income. They use a combination of top-down macroeconomic analysis and bottom-up security selection to manage their bond portfolios which has served them well over time. The managers also consider environmental, social and governance (ESG) factors in their analysis. This helps them identify potential risks that could affect the long-term viability of lending, increase costs to the business or result in future litigation.

The managers are rewarded based on the long term performance of their fund so their interests are aligned with investors. We think their incentivisation structure is better than most and encourages good behaviour but it isn’t as long term as some other groups.

Cost

The fund has a standard annual ongoing charge of 0.56%, but we’ve secured a 0.19% saving for HL clients. That means a net ongoing charge of 0.37%, which we think is one of the best value actively managed options in the corporate bond sector. The HL platform fee of up to 0.45% per year also applies.

Performance

The fund’s more adventurous approach means its tended to do better than others in the corporate bond sector when the market's rising, but declined faster when it's falling. It struggled during the financial crisis, for example, but has generally performed well since. Investors who've been prepared to ride out the dips have been rewarded with excellent long-term performance. Past performance is not a guide to the future.

In March and April* when markets felt the worst effects of the economic disruption caused by coronavirus, the fund fell more than its corporate bond peer group. Over these two months the fund fell 3.5% compared with 2.0% for the peer group. However in the seven months following (**May-November), the fund returned 7.1%, outpacing the peer group‘s 6.2% gain. Platt and Shah’s investments in the bonds of insurers and banks performed well and have been important contributors to the fund’s rebound. Though remember this is a short timeframe to consider performance over. Investors could get back less than they invest as the value of investments goes up and down.

* Source: Lipper IM, 01/03/2020-30/04/2020

** Source: Lipper IM, 01/05/2020 – 30/11/2020

Past performance is not a guide to the future. Source: Lipper IM to 30/11/2020.

Find out more about Royal London Corporate Bond fund including charges

Royal London Corporate Bond Key investor information