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Why Henderson's Pattullo & Barnard won't buy gilts (yet)

by Danielle Levy on Jan 23, 2014 at 10:05

Why Henderson's Pattullo & Barnard won't buy gilts (yet)

Henderson Strategic Bond  managers John Pattullo and Jenna Barnard (pictured) believe gilts are now 60-70% of the way through a pricing shift to reflect the realities of QE tapering and higher rates.

As markets prepare for further Federal Reserve tapering, the duo say they are more comfortable going into the process, with 10-year gilt yields around 3% rather than the 1.75-2% level that has dominated over the
past few years.

‘We think there is quite a lot priced into the gilt market. It is hardly news that rates will rise at some stage. The market is saying this could be October or November and don’t be more bearish on gilts this year from higher starting yields,’ Pattullo said.

Potential entry point

While the managers currently have a zero allocation to gilts and have done for some time, in their view valuations are starting to look interesting. They said if yields reach 3.5% this could mark a potential entry point, dependent on how other parts of the bond market are priced at the time.

With 53% of the fund in high yield and corporate bonds and 7.5% in loans, compared to a 13.1% allocation to investment grade non-financial bonds, Barnard said the fund is the most sensitive to credit risk rather than interest rate risk than it has been since 2009.

‘The UK could be the biggest surprise in terms of economic growth and UK rates could rise ahead of American rates,’ Pattullo said.

The Strategic Bond fund currently has a duration of 3.6 years, with the duo saying that due to the underweight in gilt-sensitive assets in the fund, only one year of this actually trades with the gilt market on a daily basis.

‘The fund is most exposed to a sell-off in equities rather than in gilts,’ Pattullo added.

While they are positive on this positioning and have broadly benefited, they say an increase in investment grade and a move back into gilts could be on the cards, particularly if there is a further sell-off in the gilt market.

‘Quite a lot of our high yield bonds are likely to redeem this year, so the question for us would be: how do we reinvest the proceeds? Do we go back into investment grade or stick with high yield? It is impossible to say, but our inclination is there will be a good opportunity to go back into investment grade if gilts sell off a little bit more,’ Barnard said.

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