Multi-asset credit: The moment of truth?

In the simplest terms, they represented an exchange of interest rate risk for credit risk.

Some MAC managers are positioned very cautiously at present, dialling back on both rate risk and credit risk

Yet the optimal environment for MAC – a climate in which rates are rising and credit spreads are narrowing – did not materialise as soon as many of these investors hoped. While the makers of monetary policy kicked the can down the road, MAC funds’ risk-adjusted returns largely failed to impress.

Frustrated intentions

Among the 58 institutional MAC funds with a track record of more than three years (at October 2017), only 23 have produced a better three-year Sharpe ratio, assuming a risk-free rate of 1 per cent, than the US dollar-hedged global highyield or global investment-grade corporate indices.

In terms of gross annualised performance, slightly more than half of the group have beaten global corporate bonds, and those beating the Bank of America Merrill Lynch Global High Yield Index could be counted on the fingers of one hand.

In addition, some investors have been frustrated by the lack of sector rotation, particularly around periods such as the energy price collapse and high-yield debt crisis when allocation adjustments could have produced significant outperformance.

Managers’ theoretical flexibility to move tactically between different areas (corporate bonds, sovereign bonds, high-yield, bank loans, securitised credit and even, in some more aggressive cases, collateralised loan obligation equity, convertible bonds and private debt) represented a significant selling point for a number of institutional investors.

Yet a highly dynamic strategy is challenging to implement in practice because of the limited liquidity of some credit markets and the heavy use of derivatives that would be required.

Do these setbacks spell trouble for MAC strategies and future investor appetite for this sector? The opposite may well be true.

Positive prospects?

The aftermath of President Trump’s election has produced considerably more favourable conditions for MAC strategies, at least in theory. In 2014-15, oil prices tumbled to record lows, emerging markets were in the doldrums and high-yield credit was experiencing something of a crisis. Yet in 2017 the situation has been reversed.

Importantly for the MAC premise, interest rates are now rising at last. The two-year US treasury yield has moved up about 70 basis points over the past 12 months.

The European Central Bank is about to cut its quantitative easing, which should gradually move the continent to a positive-trending rate environment.

That said, there are weaker grounds for optimism regarding spreads: it is hard to envisage significant further narrowing given today’s high valuations. Some MAC managers are positioned very cautiously at present, dialling back on both rate risk and credit risk, and cash allocations are high.

In addition, investors that examine asset managers in this sector – a very heterogeneous assortment with different return objectives and risk parameters – now have the benefit of significantly longer average track records to scrutinise.

There are now an estimated 33 MAC products with track records of more than five years, and 58 with three years or more: a very significant improvement versus 2014.

This allows for more rigorous analysis of how managers have performed in different market conditions and where their strengths lie. It is also very useful that the past three years have encompassed a range of market conditions and events.

MAC strategies do still provide a good method of gaining exposure to sectors that would not always be appropriate for standalone allocations, particularly for smaller investors. For example, many MAC funds have benefited over the past year from exposure to structured credit.

One might ask, 'Is now the time for their original premise to prove its worth?' This, perhaps, is the real moment of truth for MAC managers.

Mathias Neidert is managing director, head of public markets investment advisory at bfinance