How Ignis’ Corporate Bond Fund manager Chris Bowie is playing credit market uncertainty

Below, Chris Bowie, head of credit portfolio management at Ignis Asset Management, offers his view on current and future credit market conditions, and explains how he is positioning the Ignis Corporate Bond Fund defensively amid sovereign debt fears and ongoing market uncertainty.

Current positioning
“After spending 2009 with the Fund tilted towards higher-yield, riskier positions, we have spent 2010 reducing our risk exposure overall, but adding to those high-yield positions where we have strong conviction.
We currently have around 35% of the portfolio in lower-risk areas, including gilts, quasi-government bonds and utilities. For the most part, our higher yield positions are in the financial sector, in institutions where we believe that debt restructuring programmes could benefit investors. These positions, which constitute a relatively small part of our portfolio, though a large proportion of our risk exposure, have underperformed recently. We have sought to buy more on weakness, but the relatively illiquid market has prevented us from doing so. An example of one of these positions would be the Northern Rock Tier 2 debt with 2015 maturity, which we bought at a 19% yield in December. This issue is not backed by a government guarantee, hence the yield premium. However, we believe that the guarantee on the senior debt issue is enough to make this a very attractive investment, with the market over-discounting the risk of default.” 
A top-down perspective
“Away from these selected bottom-up opportunities in the riskier debt pools, our top-down view remains defensive. The next 18 months will present major challenges for bond markets as governments seek to rebalance economies and reduce deficits. As part of this strategy, treasuries will need to bolster taxation income. Wary of waylaying the tentative recovery in consumer confidence, we believe that governments will apportion much of this increased taxation burden to the corporate sphere. With many sectors in fine financial fettle, including the much maligned banks, the temptation for taxation may well be too great to resist. An example of this may already be observed in Australia, where the government is imposing a windfall tax on miners. In this environment, it is difficult to see earnings growing strongly while governments are looking to increase their tax take and reduce spending.”
A return to QE?
“A risk to our defensive stance would be a resumption of quantitative easing, which could become necessary if sovereign debt markets fail to find their feet. This would see a rally in the higher-yielding end of the market, where we have limited exposure. However, before QE becomes a realistic option for central banks, demand for risk assets will have to dwindle further, a scenario which would benefit our portfolio.
“The good news for the UK is that despite an uncertain economic outlook and challenged public accounts, debt investors still regard gilts as a safe haven. This is due largely to the flexibility afforded to policy-makers by the ability to manage the supply of sterling. This stands in opposition to the euro-zone, where the problems have been created to a large extent by the mismatch between political and monetary sovereignty. The fledgling Conservative-Liberal coalition has started on the right foot, and investors have welcomed the creation of an independent ‘Office of Budget Responsibility’. Whilst we hope that the coalition will be able to successfully reign in the budget deficit without trampling on the green shoots of economic recovery, for the moment we remain cautious, with our portfolio positioned defensively.”