Pearl ups corporate bonds to manage rate risks

In a reversal of its previous strategy to increase gilt holdings, it has bought corporate bonds instead. This is in line with other schemes that have increased their exposure to corporate bonds over gilts, to take advantage of higher yields.

“The new investment strategy was developed as a way of reducing the scheme’s exposure to investment risk,” said a spokesperson for its sponsoring employer, now called Phoenix Group.

“The corporate bond portfolio and the liability-hedging portfolio reduce the scheme’s interest rate and inflation rate risk while the exposure to return-seeking assets – eg equity, property, alternative assets – has also been reduced. The target allocation for these assets is now 25 per cent compared with 45 per cent previously.”

If [a scheme is] very mature and doesn't want to be taking that much risk it is advisable to go down an liability-driven investment route

The scheme invested 44.9 per cent of assets in its final salary sections in corporate bonds in June 2013 compared with 31.1 per cent at the time of the previous valuation in 2009, according to a recent report on its 2012 valuation.

Gilts account for the vast majority of the scheme’s liability-hedging portfolio, which now makes up 27.5 per cent of its investments, down from a 32.5 per cent allocation to gilts for the same period. This is despite previous plans to reduce investment in corporate bonds to 10 per cent and increase the allocation to gilts to 45 per cent, as stated in the scheme’s 2009 actuarial report.

Since it adopted a new investment strategy, comparisons between the investment mix of assets before and after its adoption are likely to be misleading, the Phoenix Group spokesperson said. Its target allocation for the final salary sections is now 50 per cent for corporate bonds and 25 per cent for gilts.

Schemes have been increasing their exposure to corporate bonds over the past 10 to 15 years as a means of matching their liabilities, according to investment experts.

The best time for schemes to have invested more heavily in corporate bonds was in 2009, when yields peaked at 9 per cent, before dropping to pre-crisis levels at the end of 2010.

“If you go back a couple of years to 2009, that was effectively a once-in-a-generation opportunity to get hold of bonds on the cheap,” said Jamie Hamilton, senior institutional credit fund manager at M&G Investments.

This is because investors in the markets were concerned about corporate risk, he said. The decision to invest more heavily in corporate bonds rests on whether a scheme compares present yields to rates during 2000-2005, which have since tightened, or 2005-2006, said Nick Secrett, investment director at PwC.

“[Corporate bonds] are still significantly higher than they were in 2005-2006, so they still look like good value,” said Secrett. For schemes wanting to spread their fixed income portfolio, investing in corporate bonds may be a good option, but less so for schemes wanting to perform a relative value trade, he added.

For many schemes needing to increase returns, corporate bonds are a good option, said Brian McCauley, senior investment consultant at Buck Global Investment Advisors.

“If [a scheme is] very mature and doesn’t want to be taking that much risk, it is advisable to go down a liability-driven investment route or government bonds,” said McCauley.

Schemes should, however, take care when selecting bonds to invest in. Buying corporate bonds generically can be a potentially dangerous game, according to Hamilton, as schemes need to be sure they will get their money back.

Schemes should look for companies that have relatively stable cash flows and that are willing to communicate with their investors so they can perform an effective analysis of the stability of the company, Hamilton added.

The Pearl Group Staff Pension Scheme declined to comment on its investment strategy.