Financials are important return drivers in the GAM Star Credit Opportunities fund.
Citywire AAA-rated fund manager Anthony Smouha says the star names in the sector have done their homework to become safer and have shown really good progress in capital strengthening.
‘The CET1 capital ratio of HSBC, for example, was 10.9% in 2014 and is 14.7% now. In the bond world, when the Core Equity Tier 1 increases, a bank is much safer and has less leverage,’ he explains.
But it's not just the big names that are upping their game. The fund manager sees an overall improvement in the security of the financial system as a result of the implementation of the Basel III reforms and he anticipates the implementation of Basel IV, which is currently at the consultation stage.
Smouha says it is important to be selective when allocating to financials. The fund manager focuses on corporate governance, to make sure that managers act in the interest of bond holders. ‘The main things we are looking at are the quality of the management and corporate governance, as we want to be in the safest companies in the safest countries.’
One of the top holdings in the fund is HSBC. Smouha says the bank has been very focused on two aspects: raising capital and reducing its risk-weighted assets.
He adds that one of his objectives is to manage interest rate sensitivity in the portfolio. ‘When interest rates go up, returns of fixed rate bonds go down. That’s why we have about half of the portfolio in fixed rate bonds that do well when rates go down, while another half in flo ating and fixed to floating rate notes that do well when interest rates go up .’
He also has a regional bias towards European names. ‘Asian and US companies are also very strong but they are rewarding us less. In the meantime European valuations are cheaper, while junior debt provides us with attractive returns.’
This article was originally published in the November 2017 issue of Citywire Switzerland.