Institutional Corporate Value Bonds
Roll over of successful Maturity Fund
Sune Højholt Jensen, Senior Portfolio Manager, [email protected]
Institutional Corporate Value Bonds
Agenda
 Introduction to the rollover of Sparinvest‟s Maturity Fund
 Strategy and performance of Fund n°1
 Changes and overall investment policy of Fund n°2
 Risk/Return characteristics of a non-buy&hold benchmark
 The Value Bond investment style
 Value applied to credit
 Value Bond philosophy, process & examples
 Portfolio construction
 Risk management
 Fund n°2 characteristics
 Overview, constraints and time line
 Portfolio composition – example of a portfolio based on the Value Screening
 Default robustness
2 Ι Sparinvest
Introduction to the rollover of
Sparinvest‟s Maturity Fund
3 Ι Sparinvest
Institutional Corporate Value Bonds
Fund n°1 exploited Value effects and flat credit curve
Basispoints
Yield
600
Investment principles
9.0%
8.0%
500
7.0%
400
6.0%
5.0%
300
4.0%
200
3.0%
2.0%
100
1.0%
0
0.0%
2
3
4
5
6
7
8
9
10
13
18
Modified Duration
OAS (left axis)
4 Ι Sparinvest
Global Investment Grade
Global Government Bonds
 3 years maturity
 Min BBB avg. rating
 No EM exposure
 CCC sell trigger
 90-95% IG/5-10% HY
 Diversification limits
 Value investing
Institutional Corporate Value Bonds
Fund n°1 : performance versus benchmark
125%
21.8% total return
7.1% return p.a.
Very low volatility
120%
115%
110%
Industrial Benchmark 1-3 years
105%
Sparinvest Institutional Corporate
Value Bond Fund
Jan-12
Nov-11
Sep-11
Jul-11
May-11
Mar-11
Jan-11
Nov-10
Sep-10
Jul-10
May-10
Mar-10
Jan-10
Nov-09
Sep-09
Jul-09
May-09
Mar-09
100%
Over the same period, a German Government Bonds (3 year OBL 2012) achieved
a total return of only 5.3%.
Source: Merrill Lynch Index system, 95% G1BI + 5% H1WN
5 Ι Sparinvest
Institutional Corporate Value Bonds
Corporates are generally in a good shape
 Increase in operational margins and profits
 Decrease in corporate leverage
(Europe)
6 Ι Sparinvest
(US)
Institutional Corporate Value Bonds
Absolute yields are low – but OAS very attractive
12%



OAS (70% IG + 30% HY)
10%
Government Yield
Yield : 4.15%
Gov. yield : 0.65%
OAS : 350 bps
8%
6%
4%
Market spread :
350 bps
2%
2011
2010
2010
2009
2008
2008
2007
2006
2006
2005
2004
2004
2003
2002
2002
2001
2000
2000
1999
1998
0%
Source: ML 70% IG + 30% HY
7 Ι Sparinvest
Institutional Corporate Value Bonds
Comparison with government yields
The expected yield from a 70% IG / 30% HY portfolio (4%) compares
favourably with government bonds on the same maturities :
3 Years
5 Years
Germany
0.26%
0.72%
US
0.50%
0.89%
France
0.80%
1.56%
(March, 12th 2012)
8 Ι Sparinvest
Institutional Corporate Value Bonds
The new Maturity Fund - changes
Increase High Yield weight
Extend maturity by almost 1 year
Global scope with 10% Emerging Markets, but no FX exposure
No financial issuers
High Yield
Investment Grade
9 Ι Sparinvest
Investment Grade
Institutional Corporate Value Bonds
Benchmark characteristics – low volatility
The strategy provides good returns associated with a very low volatility.
7.5%
250
6.5%
5.5%
Return p.a.
Volatility p.a.
3 yr
5 yr
10 yr
12.4%
7.0%
6.7%
2.2%
2.3%
2.0%
200
4.5%
3.5%
-13%
150
2.5%
1.5%
0.5%
1998
1999
2001
2002
2004
2005
2006
Annualized Volatility, 3 months rolling %
2008
2009
2010
100
2012
Return series
Source: ML 70% IG + 30% HY
10 Ι Sparinvest
The Value Bond investment style
11 Ι Sparinvest
Institutional Corporate Value Bonds
Academic foundation – Value applied to Credit
2001: Professor Martin Gruber :
”Making use of the Fama–French factors, we show that
as much as 85 percent of that part of the (credit) spread that is
not accounted for by taxes and expected default can be explained
as a reward for bearing systematic risk.”
Journal of Finance, Feb. 2001
Net Debt to Equity effect
(75% maximum)
12 Ι Sparinvest
Price to Book effect
(Lowest 30%)
Market cap effect
(Lowest 30%)
Institutional Corporate Value Bonds
The Value Bonds Investment Philosophy
Securing high ”recovery” in
case of default
Low Gearing
Minimize default
probability
Covenants and limit
value dilution
Free Cash Flow
Documentation
Value
Bonds
Low Price to
Book
Increases the takeover probability
13 Ι Sparinvest
Small Caps
Increase the expected rate of return
because of higher coupon payments
Institutional Corporate Value Bonds
Investment philosophy – exploiting the opportunities
Rating Agencies penalize small caps and Emerging Markets corporates.
The weak score
in business
diversity is
mitigated in a
diversified
portfolio.
Source: Moody‟s Investor Service, Credit Opinion of Ferrexpo Plc, September 29, 2010.
14 Ι Sparinvest
A = Rating based on a Value
approach. The issuer‟ solvency
is actually very good.
B2 = Actual rating assigned by
Moody‟s to the company
Institutional Corporate Value Bonds
Credit Market Mis-Pricing Creates Opportunities
 Smaller companies issuing bonds are penalised on grounds of size
 Value companies issuing bonds are penalised for being „out of fashion‟
 Emerging market companies issuing bonds are penalised on grounds of
geographic location
 Poor market sentiment occasionally impacts on specific sectors
(currently European financials, US homebuilders)
Result?
Individual companies with strong balance sheets and good debt
repayment histories are forced to pay higher yields
Classic Value Scenario
15 Ι Sparinvest
Institutional Corporate Value Bonds
Low default rate ensure the realization of premiums
By focusing on low net debt to equity ratios, defaults have been minimized.
Default Rate (%)
12,00%
10,00%
Sparinvest High Yield Value Bonds
8,00%
The Global High Yield Market
6,00%
4,00%
2,00%
0,00%
2006
16 Ι Sparinvest
2007
2008
2009
2010
2011
Why Sparinvest Emerging Markets Corporate Value Bonds? A Unique Investment Process
Example of the Value Bond approach
Nordgold was 100% owned subsidiary of OAO Severstal, one of the world‟s leading steel and mining companies

We found Nordgold in our value screening because of:
 Strong balance, attractive loan to value, and a strong owner

Value Bonds hold Nordgold bonds:
 Restrictive bond documentation with pledge on Nordgold‟s most valuable gold mine
 Nordgold bonds are not within a benchmark  bonds trade wide relative to the Severstal bonds!
 Bonds pay 9.5% in coupon, maturity in 2014 and yielding 13.4 %
 Severstal bonds are yielding 6.4% on their 2014 maturing bonds
17 Sparinvest Emerging Markets Corporate Value Bonds
Institutional Corporate Value Bonds
The Price to Book effect in practice
–
We benefit from M&A : “change of control” covenant is key to the process.
Price on Allis-Chalmars 8.5% 2017
120
100
80
60
40
20
0
18 Ι Sparinvest
Take over by a
competitor has led to
increase in price to 101
(embedded option)
Institutional Corporate Value Bonds
Investment Process – portfolio construction
 Value Screening
2000+ corporate bond issues
Value
Screening
250 issues
Company
Analysis
125 issues
Bond
Analysis
 We focus on financial ratios and NOT ratings
 Small Caps, Net Debt/Equity, Price/Book and Interest
Coverage
 Cash flow and Refinancing Risk – to reduce default risk
 Company Analysis
 Corporate Governance Analysis
 Financial Reports. Management Style
 Bond Analysis
 Relative value
 Covenants, Embedded Options
 Loan to value, seniority
50-75 issues
 Portfolio Characteristics
 Focus on Value – 100% Bottom-up
Portfolio
 Subject to Fund constrains
Source: Bloomberg is used for value screening excluding financials and including only firms disclosing financial reports on Bloomberg
19 Ι Sparinvest
Institutional Corporate Value Bonds
Investment Process – Risk management
 Risk monitoring – primarly Value Factors
 Net Debt to Equity, Interest coverage, P/B
 Daily bond price evolution
 Duration management
 VAR
 Compliance check
 Pre-trade compliance through Bloomberg AIM
 Middle office check – on the fly
 Custodian check – settlement, UCIT rules, prospectus, hedge levels – daily
 Sparinvest Middle office
 Check of bond prices and NAV
 Check of settlement, coupons, corporate actions
 Hedging levels, overdraft etc.
20 Ι Sparinvest
Fund n°2 characteristics
21 Ι Sparinvest
Institutional Corporate Value Bonds
Fund characteristics
 Ucits IV structure
 Maturity December 31st 2015
 Maximum bond maturity date – December 31st 2016
 10% longer dated callable bonds
 Diversification constraints
 Maximum 30% High Yield. (Prospectus 35% to face short term market changes).
 No banks nor insurance, just corporations & funding vehicles (100% owned)
 No subordinated bonds
 Global Universe, Max 10% Emerging Market exposure
 Maximum weight per issuer : IG : 3% ; HY : 1.5%
 No local currency - FX risk hedged to EUR
 Redemption Fee of 3% (only 2% when notified)
22 Ι Sparinvest
Institutional Corporate Value Bonds
Portfolio characteristics – an example
30.00
Initial key figures
Yield to Worst
4.84
M odified Duration
3.15
NDE
31.48
P/BV
1.37
Ebitda/Interest
USD/EUR/NOK
Number of Issuers
Average Rating
20.00
27-jan-16
14.82
Weight, Pct
Average M aturity
25.00
15.00
10.00
51.3/36.8/4.5
74
5.00
BBBAA-
23 Ι Sparinvest
A+
A
A- BBB+ BBB BBB- BB+
BB
BB-
B+
B
B- CCC+
Institutional Corporate Value Bonds
Portfolio characteristics – an example
40.00
35.00
35.00
30.00
30.00
25.00
20.00
Weight, Pct
Weight, Pct
25.00
20.00
15.00
15.00
10.00
10.00
5.00
-
24 Ι Sparinvest
5.00
-
Institutional Corporate Value Bonds
Portfolio characteristics – default capacity
The portfolio can bear a substantial amount of defaults and still produce a
government equivalent return.
Portfolio OAS
Recovery Rate
10%
20%
30%
40%
50%
250bps
11%
12%
13%
15%
18%
300bps
12%
14%
16%
350bps
14%
16%
18%
21%
24%
400bps
16%
18%
20%
23%
27%
20%
23%
26%
30%
450bps
18%
18%
21%
Percentages represent accumulated default rates for which return will equal
the return of a 4 year government bond/riskfree investment
25 Ι Sparinvest
Institutional Corporate Value Bonds
Yields have decreased since the beginning of the year but…
Investment Grade spreads



High Yield spreads
Potential is still there if we compare to what can be expected from German or US
government bonds on the same maturity.
The yield of the portfolio calculated on March 7th is now 4.4% before costs.
Compared to the benchmark (70% IG / 30% HY – non financials), Sparinvest Value Bonds
strategy brings a 65 bp additional yield.
26 Ι Sparinvest
Institutional Corporate Value Bonds
Time line
Subscription Period
Fund Maturity Date
Investment Period
Wind-down Period
Discreationary Acceptance
of Subscriptions
No duration/rating test
Purchase-limitation (min BB)
30/6/2012
16/3/2012
30/6/2015
31/12/2015
Maximum Bond
Maturity Date*
31/12/2016
17/4/2012
Subscription End Date
Maturity Date if AUM<50 mio €
* Callable bonds can have a longer legal maturity date
27 Ι Sparinvest
Institutional Corporate Value Bonds
The Sparinvest Value Bond Team
 Klaus Blaabjerg (1973)
 Klaus Blaabjerg (1973)
Chief Portfolio Manager and team leader.
Chief Portfolio Manager and team leader.
Member of the Investment Committee, Performance Monitoring
Member
of theGrade
Investment
Committee, Performance Monitoring
Optimizing and management of the High Yield and
Investment
portfolios.
and management
of the High Yield and Investment Grade portfolios.
Has previously managed corporate bond fund withOptimizing
a track record
of 5 morningstars.
Has previously
managed
2 other corporate bond funds with track records of 5 Morningstars.
M.Sc. Economics, University of Copenhagen. Certificate
in Financial
& Asset
M.Sc. Economics, University of Copenhagen. Certificate in Financial & Asset Management, HEC Lausanne.
Management, HEC Lausanne.
With Sparinvest since 2005.
With Sparinvest since 2005.
 Sune Højholt Jensen (1971)
Senior Portfolio Manager.
 Sune Højholt Jensen (1971)
Senior Portfolio Manager.
Member of the Investment Committee, Product Development
Member of the Investment Committee, Product Development
Optimizing
and management
of the High Yield, Investment Grade and Emerging Market Bonds portfolios
Optimizing and management of the High Yield, Investment Grade
and Emerging
Has
a
background
as
senior
dealer
and analyst within corporate bonds and credit default swaps.
Market Bonds portfolios
B.Sc.
Business
adm.
&
management
science,
Has a background as senior dealer and analyst within corporate bonds, and
M.Sc.
Finance
and
Accounting,
Copenhagen
Business School.
corporate bonds credit default swaps.
With
Sparinvest
since
2007.
B.Sc. Business . & management science,
M.Sc. Finance and Accounting, Copenhagen Business School.
 Toke Hjortshøj (1978)
With Sparinvest since 2007.
Analyst.
 Toke Hjortshøj (1978)
Screening and analysis of new cases.
Has done research within restrictive covenants in corporate bonds.
M.Sc.
Economics and Business administration, University of Aarhus.
Screening and analysis of new cases.
Ph.D.
Finance,
University of Aarhus.
Has done research within restrictive covenants in corporate
bonds.
With
Sparinvest
since 2007.
M.Sc. Economics and Business administration, University of Aarhus.
Analyst.
 Anne Margrethe Tingleff (1983)
Analyst.
 Anne Margrethe Tingleff (1983)
Analyst.
and analysis
of newdata
cases, together with optimization of the teams data tools.
Screening and analysis of new cases, together withScreening
optimization
of the teams
M.Sc.
Economics,
University
of
Copenhagen.
tools.
With
Sparinvest
since
2007.
M.Sc. Economics, University of Copenhagen.
With Sparinvest since 2007.
Institutional Corporate Value Bonds
Disclaimer
The mentioned sub-fund is a part of Sparinvest SICAV, a Luxembourg-based, open-ended
investment company. For further information we refer to the prospectus and the current annual
/ semi-annual report of Sparinvest SICAV which can be obtained free of charge at the offices of
Sparinvest S.A. or of appointed distributors. Investments are only made on the basis of these
documents. Past performance is no guarantee for future returns. Investors may not get back the
full amount invested. Investments may be subject to foreign exchange risks. The investor bears a
higher risk for investments into emerging markets. The indicated performance is calculated Net
Asset Value to Net Asset Value in the fund‟s base currency, without consideration of subscription
fees. Published by Sparinvest, 28, Boulevard Royal, L-2449 Luxembourg.
29 Ι Sparinvest