The banking sector now holds less risk for investor but the mechanisms making it safer is causing volatility in the market, according to Sandro Naef.
The Citywire AA-rated manager, who co-runs the Nordea 1 European High Yield Bond fund with Torben Magaard Skødeberg and Henrik Østergaard Pedersen, thinks banks' re-capitalisation efforts since the 2008 financial crisis have aided performance and default risk in general has decreased.
Naef runs the Nordea fund on mandate and is co-founder of Copenhagen-based Capital Four Holding A/S, which was recently acquired by Northill Capital.
‘The volatility that we have now is driven by what we call MDA trader level. MDA is a minimum requirement that banks need to hold before they have to shut off dividend payments and coupon payments on capital instruments,' he told Citywire Selector.
'That makes banks safer, as mechanisms are preserving capital in the banks instead of dividends being paid out to shareholders. But it makes those capital instruments much more volatile than they have been in the past. That is something regulators probably didn't want. It has certainly created more investment opportunities for people that have the experience and resources.'
In the Nordea fund, Naef and his colleagues have 2.76% exposed to Royal Bank of Scotland Group, which is the largest holding and Naef said it was a legacy position that would provide a high yield in the medium to long term.
Elsewhere, he has also recently purchased 'old style' Tier 1 bonds in German banking firm Deutsche Bank, which was under considerable scrutiny at the start of the year. These make up just over 1% of the fund and Naef said he is undeterred by the bank’s recent losses.
‘We went very carefully through the report through the earnings details we share some concerns about the earnings generation capability of the firm but at the same time we think the reaction in the market was overdone. We think the available distributable items that they are have should be sufficient to make the coupon payments.’
Oil related companies
Away from financials, Naef sees opportunity in companies with indirect exposure to oil, such as distribution companies. He has a small holding in the Swedish chemical company Perstorp, which Naef said is offering double digit returns in a challenging environment.
‘The chemical industry has sold off in sympathy with the oil companies because there is a lot of crossover and this company within the chemicals and therefore been able to pick up bonds at very attractive prices,’ he said.
Naef thinks oil is one of the reasons European high yield is more resilient than US high yield. ‘Oil related bonds are 15% of the high yield market in the US, but 0% in Europe.'
'There is oil exposure in Norwegian platform bonds, but they are not in the investment universe of the European high yield market. We think the European market is in a pretty healthy state, balance sheets are not stretched.’
The Nordea 1 – European High Yield Bond fund returned 15.3% in euro terms over the three years to the end of February 2013. This compares to a rise of 13.75% over the same timeframe by the BofA Merrill Lynch Euro High Yield TR EUR over the same timeframe.