Scotiabank's Advantaged Canadian High Yield Bond Fund, managed by High Rock Capital, was featured in Dow Jones Newswire's Tip Sheet on 11/27/2012. A couple of highlights:
1. The 1yr performance of 14.3% based on NAV to 10/31/2012.
2. Wrong quote...the Fund not only can invest 80% in C$ HY, it is mandated to have a minimum of 80% in C$ HY at all times. This mandate was created to take advantage of our "Buy Canada" theme and to be the first pure-play in C$ HY.
3. The article talks about the capital structure of a corporation and the "seniority" of HY within that capital structure...something we have written a fair bit on. About 42% of our portfolio is at or near the very top of the capital structure as senior secured paper. That is to say, the bonds are backed by, in most cases, specific assets or guarantees of the company.
Have a read (sorry it is not in the right format yet):
CANADA TIP SHEET: Advantage High Yield Fund Focuses on Canada
high-yield bonds as a distinct asset class
bonds rank near top of issuers' capital structure
on burgeoning Canadian-dollar high-yield market
yield isn't what you think it is.
many investors, the phrase "high yield" evokes a highly speculative asset class
also known by the unflattering moniker "junk bonds."
Tepsich has a different perspective.
Tepsich, portfolio manager at High Rock Capital Investment, manages the
Advantaged Canadian High Yield Bond Fund for Bank of Nova Scotia
high-yield bonds as a distinct asset class that offers relatively high returns
with considerably less risk than is commonly
belief is the underlying assumption behind the fund. Launched on April 1, 2011
as a closed-end fund, it currently has assets under management of about 85
million Canadian dollars ($85.5 million).
fund is expected to convert to an open-ended mutual fund next March, Mr. Tepsich
to data provided by the bank, which isn't audited, the fund's class A units
have returned about 14.3% over the last 12 months. Since inception, the return
has been about 6.3%.
fund can invest up to 80% of its assets in Canadian high-yield
fund, effectively, was the first of its kind as a pure play Canadian dollar
high-yield fund," Mr. Tepsich said.
other assets that offer high returns, such as equities and income trusts,
high-yield bonds carry an obligation to pay the interest at the level
guaranteed by the fund's coupon.
things go bad, when 'risk off' comes into vogue, you're still getting your
coupon. You may lose on your mark-to-market, your bond values might drop, but
you're still collecting a big coupon," Mr. Tepsich
bonds are also near the top of the capital structure of most issuers and
out-rank equities in their claims against companies in the event of default, he
whole portfolio, 42% is in senior secured paper and 58% is in senior
combination of yield and safety, compared to other high-yielding assets,
reflects high yield's status as a distinct asset class. A lack of correlation
with other assets, notably government bonds, is more evidence of its distinct
status, Mr. Tepsich said.
asset class that should be attractive to Canada's growing cohort of senior
citizens, who are looking for yield but also want to avoid the risk and
volatility of equities, he said.
majority of your yield, at 65-plus years old, should be backed by an indenture,
not by a promise," he said.
still a relatively small market at about C$13 billion in outstanding issues,
the Canadian high-yield market is expanding rapidly, with new issues coming at
a pace of around C$5 billion a year. The market is quite liquid, and will
become more so as it grows in size, the manager
fund's concentration in Canadian high yield will shelter it somewhat in the
event of a fiscal catastrophe in the U.S., he said.
of the fund that isn't in Canadian-dollar high-yield bonds is invested in a
broad range of instruments, including investment-grade corporate bonds,
U.S.-dollar high yield and government bonds.
to Don Curren at firstname.lastname@example.org
BACK: We invite readers to send us comments on this or other financial news
topics. Please email us at TalkbackAmericas@dowjones.com. Readers should
include their full names, work or home addresses and telephone numbers for
verification purposes. We reserve the right to edit and publish your comments
along with your name; we reserve the right not to publish reader
Dow Jones Newswires
27, 2012 12:00 ET (17:00 GMT)
I was quoted in the ROB today in an article by Josh O'Kane. Unfortunately, much of the information I gave to Josh never found it's way into the article. I thought I would expand it here:
1. Demand for Yield is a long-lasting theme:
The 65+ cohort expands rather dramatically for as far out as StatsCan data goes...30yrs. This demand for yield has, and will continue to, come at the expense of equites where 65+ yr olds cannot take any further volatility.
2.The Capital Structure of a Corporation. How are you driving yield in your portfolio? Are you still driving it through stocks (which are at the bottom of the capital structure and who's yield is a dividend, which is simply a promise to pay)? Why not drive yield through a HY bond that is backed by a legal obligation (called an Indenture)? Your pick....the top of the capital structure with protective covenants...or the bottom with no covenants at all. As per Professor Kirzner's comments on defaults: to be sure, they are extremely low right now (~2% of the Index is in default), because HY issuers are in such great shape (Point 5 below), but they can, and at some point will, rise. When? Well, the FOMC is determined to keep interest low till 2015 and we know HY issuers are in great shape so I wouldn't look for the default rate to rise much at all over the next 3yrs. Regardless, there will be defaults, but remember, if you own the equity of the same HY issuer that defaults, you are likely to get a recover at, or pretty darn close to, zero on your equity. HY bonds typically have a recovery in default of around 40cents on the dollar, and some with excellent security packages can have par or more (100.00). As the title of the story says, having a professionally managed portfolio will ensure diversification in the unlikely event that an issuer defaults. Yellow Media is probably a good example of what happens to HY bonds and stocks during a default/restructuring...the equity will get effectively zero in the restructured company while the bonds will get a recovery of about 70cents/$...plus the accrued interest since filing it's Plan of Arrnagement with the court in Quebec. Not bad.
3. Very Strong Risk-Adjusted Returns.
A picture is worth a thousand words. This is taken over the past 5yrs ending July, 2012. Think Canadian Bank stocks are less risky than C$ HY? Think again...just look at the risk you are taking at 19% volatility for only a 4% return per year. Crazy risk. And REITs and Utilites produce a similar story. Be not afraid and always remember Point 2 above..you are in a safer part of the capital structure in HY than equities.
4.Low Correlations. C$ HY exhibits very low correlations to other asset classes (5yrs ending July 2012). What this shows is that C$ HY is a separate asset class unto itself and as per my quote in the ROB, there is ZERO correlation to interest rates. If rates go up because central banks make it so, becuase the economy is improving, then it is most likely that companies are increasing their cash flow and it is that cash flow that pays our coupon. The more cash flow the company produces, the more of a cushion we will have under us for them to pay their coupon interest. IE to say, interest coverage (Ebitda/Interest Expense) rises. A very good thing indeed.
5. HY issuers are in very good shape.
They may be levered companies, and some people may even refer to them as junk, but check out what they look like right now. In general, US HY issuers, have very high cash balances, below-average leverage, and record high interest coverage (Point 4 above). This supports the flow of funds that has, and will likely continue to, find it's way out of equity funds, and into HY funds. All companies stared over the abyss in 2007-2009 and I think they have found religion and are unlikely to commit to any strategies that will alter this current state of strength. I think this is largely part of the stubborn unemployment problem in the USA. Good luck Mr President.
6.The Buy Canada Theme.
Canada is likely to have a balanced budget in 2015...the USA?...well, without going into political views, it is likely to balance it's budget by 2045. High Rock believes that investors will be more "protected" in C$ HY, than U$ HY, especially if there is a fiscal crsis south of the border. Moody's even published a report in Sept/12 stating that a review of over a thousand HY bonds showed that C$ HY bonds had better protective covenants in their Indentures than U$ HY bonds. Our market is growing and becoming more diversified (C$ HY is arguably way more diversified than C$ Investment Grade where the bonds are all Financials, mixed in with some Utilities). Also, we are Canadian and have significant relationships here with both the sell-side dealers (for excellent trade execution on new issues and secondary) as well as issuer's management teams who we meet with often. The bottom line: we have our "ear to the track" in C$ HY and feel we have a competitive and comparative advantage operating in Canada vs the USA.
Conclusion: To be sure, there is risk associated with HY bonds...every financial asset has risk...gov't of Canada bonds have risk..it is all interest rate risk and very little credit risk...but it is risk nonetheless. But what investors need to focus on is the risk-adjusted returns...ie...how much risk are you taking for the return you are receiving: C$ HY proves near the top of the heap. And given the lack of correlation of C$ HY bonds to those other investable asset classes, it makes sense to have a weight in your portfolio to this asset class. How much weight? Well, you need to be your own liquor control board and, like every portfolio decision, it should be specific to each individual, and designed by a professional. What I can add is that Professor Kirzner at Rotman flat out says investors should limit their exposure to HY to 5%. How he came up with that number, I have no idea. What I do know is that given the historical data of how well HY performs over time, 5% will not likely affect your portfolio enough to gain all the strong positives we mention above. Work out a 60/40 split portfolio in stocks/fixed income, run some regression on the 5yr retuns and volatility. Then do the same thing stripping out 15% of the stock component and 10% of the fixed income component. And you ask, "25% in a well-diversified HY portfolio? Are you nuts?" (I don't think I am, but I am more than 25% investred in C$ HY. I see it as far-more defensive than otherwise). Well would you invest 25% in equities...the bottom of the capital structure, with far-less risk-adjusted returns (less return, more risk), maybe with a dividend (that can be cut to zero with no repercussions to the issuer), with no protective covenants through a legal document (the Indenture)??? Yes you would, but I think you should reconsider that weighting to C$ HY.
Sources: BAML, Bloomberg, High Rock Capital, StatsCan, Trading Economics, Department of Finance, Canada, US Treasury.
Timeline: 5yr return statistics are calculated ending July 31, 2012.