The cash-rich companies bond investor Lynas is targeting

Businesses clamoured to bolster their balance sheets following the 2008 credit crisis. As banks reined in their lending, corporates also started to hoard cash in an attempt to lower their dependence on the banking sector.

Chris Lynas, fund manager at Smith & Williamson, says as a result corporate balance sheets are in much better shape today than they were five years ago.

Lynas is a Citywire AAA-rated fund manager and oversees the Smith & Williamson Fixed Interest trust and Short Dated Corporate bond fund, alongside Ian Kenny who is also a Citywire AAA-rated manager. Both funds focus on holding investment grade corporate bonds, with some government bonds included in the trust.

The Fixed Interest trust has returned 37.57% over the past five years, to beat the Bank of America Merrill Lynch Sterling Corporate Bond’s total return of 28%.

Its top holdings are in gilts, and bonds issued by British American Tobacco (BATS.L), Prudential (PRU.L) and Thames Water. The only sectors the managers have taken a conscious decision to avoid are banks and autos.

Lynas explains: ‘The corporate sector, particularly the investment grade side, has pretty much refinanced and there are very few of our companies that depend on bank debt. There were in 2008 but if you look at FTSE 100 companies now, most of them have cash on their balance sheets.

‘However the high yield end of the market, or so called junk bonds are still very dependent on banks and that’s where the pain might come there if we have a secondary banking crash, which I would expect with Europe in mind.’

The re-emergence of the junk bond

The European Central Bank’s cheap loan operation, LTRO, is credited with helping the region avoid a credit crunch and contributing to the New Year rally in equities. 

However Lynas says he’s concerned about the long term effects of the European Central Bank’s latest round of cheap loan to European banks. The bank has doled out €1 trillion in cash to avoid a credit crisis through the long term refinancing operations (LTRO) since December last year. 

He explains: ‘It certainly has helped and stopped any banks going bust but the problem with these long term refinancing operations is they’re a form of repo and you’ve got to repay it in three years’ time.’

The impact of the LTRO programme has seen the re-emergence of the junk bond but Lynas says that investors really have to quantify the risk before looking to any sub-investment grade bonds.

‘If defaults go up, recovery rates tend to fall. There’s not much difference between a CCC-rated bond and equities, as you take on a similar risk. The amount of detailed work you need to do at that level for is huge so you need very big teams who visit these companies regularly.