Cashing in on banks The fund invests predominantly in fixed-income-type assets and is mandated to allocate as much as 10% to local and foreign equities.
The fund’s equity exposure, which is close to its mandated maximum 10% of the underlying fund value, is skewed towards those stocks that provide annuity-like income, explains Ian Scott, manager of the fund. These stocks include banks and life insurers.
“If you think about income funds, they’re basically a quasi-bank product,” he says. This means that they need to supply investors with a constant income stream.
The fund sees opportunities in financial stocks as they’ve been “unloved” for a number of years, especially the banking stocks, explains Scott. Following the 2008 financial crisis and subsequent tightening of banks’ capital requirement rules, their risk profiles have changed for the positive.
“Banks are much safer than they were prior to the 2008 crisis,” says Scott. Stricter domestic credit-granting rules, through the National Credit Act, also contributed to banks’ healthier balance sheets, according to him.
The fund’s allocation to domestic bonds, at around 43%, is focused on corporate floating-rate notes, which limit investors’ exposure to credit risk, says Scott. Nominal government bonds, which pay fixed interest rates, comprise around 15% of the fund, he says.
There is no exposure to inflation-linked government bonds, says Scott. They’re currently trading at yields of around 1.7 percentage points higher than inflation, which makes them expensive, according to him. In addition, these bonds are less liquid and don’t allow for easy entry or exits from positions, he says.
In that sense, nominal government bonds offer better propositions with yields at about 2.5 percentage points higher than inflation, according to Scott.
The fund’s cash holding (48% of total assets, as at 30 April) is skewed towards bank debt with maturities longer than 12 months. Bank funding shifted in 2014 as the stricter capital adequacy requirements of Basel III regulations were adopted by local banks, forcing them to adjust and align their liabilities with their assets.
“Last year you could buy three-year bank NCDs [negotiable certificates of deposit] at yields of inflation plus 2.5 percentage points,” says Scott. “We took that opportunity last year.”