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View the article online at http://citywire.co.uk/wealth-manager/article/a729620

Marlborough’s AAA-rated Rainbird: prepare for interest rate hikes

by Robert St George on Jan 30, 2014 at 10:33

Marlborough’s AAA-rated Rainbird: prepare for interest rate hikes

It’s a conundrum for those in the IMA’s UK Equity & Bond Income sector: in a time of depressed bond yields, funds must still hold 20% in fixed income while delivering a yield 120% more than the FTSE All Share index.

Citywire AAA-rated Matthew Rainbird, co-manager of the Marlborough Extra Income fund, has managed to square this circle. His fund offers a historic yield of 4.26%, and has returned 40.5% over the past three years compared with an average of 29.4% from the IMA peer group.

It also boasts the best Sharpe ratio in its larger Citywire Mixed Assets category of 223 funds over the same period, with the fourth best total return.

So how does Rainbird approach the bond hurdle? First of all, he has – like many others – slashed the duration in his fixed income portfolio ahead of any interest rate hike. But that naturally impairs the fund’s income generation, so Rainbird has turned to other instruments.

Chief among these are floating-rate notes and preference shares, at around 9% of the portfolio. Rainbird owns such securities issued by the likes of Investec, Standard Chartered and Lloyds. This explains the fund’s 22% allocation to financials; Close Brothers is the only financial services equity in his top 10 holdings with a 1.1% weight.

‘This gives a steady income stream and, as preference shares aren’t as volatile as equities, helps to provide a greater degree of capital stability,’ Rainbird said. Floating-rate notes also provide protection, he added. ‘As interest rates rise, the income from them will rise and, we believe, there will also be scope for capital appreciation.’

Anxiety about higher interest rates has deterred Rainbird from property too, which represents 0.9% of the portfolio despite its current popularity among income seekers. That has led to elevated valuations in the sector. ‘What is going to happen to those share prices when interest rates rise?’ asked Rainbird.

An aversion to risk characterises Rainbird’s thinking. ‘There is quite a lot of exposure to the London property market,’ he said of listed real estate. ‘Why be drawn into an area where there are question marks?’

Marlborough Extra Income exhibits the lowest volatility in its sector, but he emphasised that ‘this has not come at the expense of returns’. Underlying its volatility profile is its extreme diversification: the £40.5 million fund has 136 holdings.

It therefore sucks in a great many income streams, smoothing returns. As an example of a niche diversifying investment, Rainbird cites Doric Nimrod, the investment trust that leases aircraft to the Emirates. That in itself delivers a steady, uncorrelated dividend flow. But for extra protection Rainbird invests in two of the listed Doric Nimrod funds.

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