We asked RLAM’s Jonathan Platt how his team copes with left-field risks and ever-shorter business model shelf lives
"Covid-19 is a great example of why we spread risks over a range of strategies because you can't see events like this coming - it was essentially ‘unanalysable' when it first struck," says Jonathan Platt, RLAM's experienced Head of Fixed Income.
That's why, "RLAM runs very diversified portfolios in terms of both individual security and sector," he says, with RLAM's sterling credit funds embracing over 20 economic sectors, notably social housing, utilities and other critical infrastructure.
Sectoral stories have diverged over the last few months, Platt says, with oil and some other commodities badly impacted alongside consumer sectors such as pubs; whereas other areas, such as pharmaceuticals and telecommunications, have been broadly unaffected.
Protective positions
But diversification is only part of the RLAM risk management jigsaw. "Our preference is also for bonds that have strong covenant protection," he says. In the present environment, companies may ask for covenant waivers to help with urgent cash flow issues, "but that puts us in a position to negotiate with the issuer to protect our clients' interests."
"We see this as relatively cheap insurance," he says. "If without much price premium you can buy highly covenanted bonds, or bonds with strong asset backing, and diversify that risk in your portfolio, you are in better stead when something truly left field disrupts economies."
Ratings rated
Senior claims on tangible assets are also designed to preserve RLAM's seniority in the capital structure if hard-pressed firms need to raise more money. Government support has delayed much of the corporate pain, but he's not in the camp that thinks it can be dodged permanently. Postponing the default rate profile is not the same as flattening it, and Platt points out that "defaults often pick up when economies pick up and more working capital is needed to keep a business going."
Part of RLAM's philosophy is therefore also to maximise recoveries in the event of default where practical - for example, through those senior claims on tangible assets - rather than depending on issuer creditworthiness. RLAM has long argued that investors pay undue attention to credit ratings versus recovery rates, undervaluing credit protection in any future economic storm and allowing some high profile industrial and consumer firms to raise unsecured money at too low a spread.
Shorter shelf-life
That market inefficiency might be about to surface. "Covid-19 has probably been the biggest shock to operating models for issuers that we've ever seen," says Platt. "The pub sector for example, where private equity owners have borrowed to increase returns on their equity, is probably going to have to see some element of deleveraging. On the positive side, look at Amazon: this is probably the greatest opportunity they've had to shift gear." But that in turn may pile pressure on retailers with more traditional business models.
Platt thinks the Covid-19 shock has accelerated a megatrend: business model shelf life is shortening, driven by technology and social changes. That won't make issuer credit analysis easier. But it complements RLAM's philosophy of relying less on forecasting and more on carrying a robust umbrella.
For professional clients only, not suitable for retail investors. The views expressed are the contributor's own and do not constitute investment advice.
Past performance is not a reliable indicator of future results. The value of investments and the income from them is not guaranteed and may go down as well as up and investors may not get back the amount originally invested. The views expressed are the contributor's own and do not constitute investment advice. For more information on a fund or the risks of investing, please refer to the fund's factsheet, Prospectus or Key Investor Information Document (KIID), available via the relevant Fund Information page on www.rlam.co.uk.
All information is correct at September 2020 unless otherwise stated. Issued September 2020 by Royal London Asset Management Limited, Firm Reference Number: 141665, registered in England and Wales number 2244297; Royal London Unit Trust Managers Limited, Firm Registration Number: 144037, registered in England and Wales number 2372439; RLUM Limited, Firm Registration Number: 144032, registered in England and Wales number 2369965. All of these companies are authorised and regulated by the Financial Conduct Authority. Royal London Asset Management Bond Funds Plc, an umbrella company with segregated liability between sub-funds, authorised and regulated by the Central Bank of Ireland, registered in Ireland number 364259. Registered office: 70 Sir John Rogerson's Quay, Dublin 2, Ireland. All of these companies are subsidiaries of The Royal London Mutual Insurance Society Limited, registered in England and Wales number 99064. Registered Office: 55 Gracechurch Street, London EC3V 0RL. The Royal London Mutual Insurance Society Limited is authorised by the Prudential Regulation Authority and regulated by the Financial Conduct Authority and the Prudential Regulation Authority. The Royal London Mutual Insurance Society Limited is on the Financial Services Register, registration number 117672. Registered in England and Wales number 99064. Telephone calls may be recorded.
For more information please see our Privacy Notice at www.rlam.co.uk. AL RLAM P 0022
