Jeffrey Bunce: The majority of funds in the Canadian Fixed Income category outperformed the FTSE TMX Canada Universe Bond Index in 2016, thanks in large part to the majority of managers being overweight corporate bonds, which outperformed government bonds.
This trend of corporate bond outperformance has continued into 2017, and over the past year ending in April, corporates have beaten the broad universe by over two percentage points. At the same time, their spread or yield pick-up over government bonds has narrowed to 2014 lows. Despite the rise in prices, many managers continue to favour corporate bonds. Indeed, the median manager in the category tends to be overweight corporates by around 15 percentage points.
PH&N, though, thinks the rally in corporate credit is nearing its end. The management team at PH&N evaluates the corporate bond market on its fundamentals, valuations and technicals. They've turned negative on both the fundamental and valuation fronts. Narrowing credit spreads back to 2014 lows combined with what they see to be stretched corporate balance sheets and concerns with consumer leverage, the housing market and the Alberta economy means they've dropped their corporate bond stake in the Gold-rated PH&N Bond fund to just under 29%, from 40% back in October 2016.
In this regard, the fund is positioned much closer to the benchmark than the vast majority of its peers, which means it could lag if corporate bonds continue to do well. However, responding to changing valuations in the market is consistent with PH&N's time-tested approach. They'll benefit from any widening of credit spreads and would likely jump at the opportunity to increase their stake in corporates given more favourable valuations.
For Morningstar, I'm Jeff Bunce.
