Growing up, global bond manager Iain Stealey wanted to become a pilot like his father, but despite taking a different career path, he still gets to look at the world from the top down.
The manager of the $2.4 billion JPM Global Bond Opportunities fund also has an expansive team on the ground who alert him to any storms on the horizon and identify the best places to land.
Speaking a few days before the inauguration of the US president, Citywire + rated Stealey’s advice for the year ahead is to ‘buckle up’ as some Donald Trump turbulence lies ahead.
‘He is going to have a huge influence,’ Stealey says. ‘As a fixed income manager, the US Treasury market is still the biggest, most liquid bond market in the world, so I now have Trump’s Twitter feed on my Bloomberg. You have to watch and be mindful of his words.’
Although there are more questions than answers surrounding Trump’s well-flagged but hazy political agenda, there’s an ‘animal spirit’ signaling the US will experience expansive growth in the years to come.
Although London-based Stealey did not see Trump’s win coming, he took steps to cut duration and increase exposure to US high yield in 2016.
These moves have helped him achieve a return of 11.2% over the past three years, in contrast with the Bloomberg Barclays Multiverse TR USD benchmark, which had a negative 0.06% return over the same period of time.
Stealey, head of global aggregate strategies within JPMorgan Asset Management’s fixed income group, has oversight of seven multi-sector bond portfolios at the firm, as well as responsibilities for segregated clients, and runs about $16.8 billion for the US fund giant.
He has managed the Global Bond Opportunities fund alongside Nick Gartside and Bob Michele since its launch in February 2013, and depends on the whole JPMorgan AM fixed income team of more than 200 investment professionals to build the firm’s best ideas strategy with more than 1,164 holdings.
After a tough start in 2016 Stealey beat his index over one year
End of an era?
All eyes are on the US Treasury yield in 2017. During the first few weeks of the year there were a number of managers trying to call at what point the 30-year bull bond market will officially end.
Trump’s expansionary policies to rebuild America’s infrastructure are expected to stoke inflation and further bond selloffs are expected.
Stealey’s view of the core markets is bearish. He believes by the end of 2017 yields on the 10-year will hit 3-3.5%, with the real impact coming in 2018.
As for whether it’s a false dawn, he believes this one ‘does feel a bit different,’ but only time will tell whether Trump’s fiscal policy works and whether global growth will continue at the same rate.
‘That will not be a good environment for your traditional fixed income portfolios,’ he says. He sees this as an opportunity to show the value flexible bond mandates can offer investors.
Stealey and his team have been reducing duration, which is now down to an average of about 2.6 years, and increasing allocations to US corporates, high yield and select emerging market currencies.
Stealey also beat his index over three years
Looking back over the Global Opportunities fund’s performance in 2016, it underperformed against the benchmark for a good part of the year, but made a comeback in October, returning 6.9% over the year versus 2.8% from the index.
Stealey splits the year up into two distinct parts. The team had started upping their allocation to high yield positions back in 2015, which hurt them in the early months.
‘What you saw at the beginning of the year was a collapse in yields, where high yield spiked, which we owned, and that didn’t help.
‘There was talk of a recession in the US, hard landing in China and all this led to the 10-year treasury yield, which started the year off at 2.27%, to fall to 1.3% after Brexit,’ he explains.
‘The first half of the year was when you wanted to own duration and core government bonds. That’s what served you well.
‘We didn’t have enough of that.’
In the second half, it became much more apparent that headline inflation was going to push higher toward the back end of 2016.
‘The back end of the year, even before Trump, we saw oil picking up, growth picking up,’ Stealey says.
‘We had been getting more negative on duration. We had a “lower for longer” view prior to the Trump election, but we had noticed the data had picked up. We thought the election result was a game changer.’
In the end, their high yield allocations outperformed.
‘What served us well were bonds that had low sensitivity to Treasury duration in the portfolio and that we were cutting duration into the selloff at the same time.’
Stealey believes US corporates and high yield will be big beneficiaries of the inflationary scene.
Combine that with rising oil prices, he says, ‘that means you want to be in the credit markets. We already had a healthy allocation to high yield but we’ve been taking it further.’
Over 2016, he allocated more toward European high yield in order to stay away from US energy names, which he will continue to shy away from despite expecting less defaults.
‘We had reduced US high yield and rolled into Europe because they didn’t have the same concentration in energy. Europe is much cleaner. That did us well.’
The bond portfolio currently has 41.6% allocated to corporate high yield and 17.4% in investment grade, the latter of which he believes is still hiding some exceptional gems.
He has also added positions to local bonds in Brazil and Russia but, again, he is keeping a close eye on whether Trump will switch his focus on fiscal policy to tearing apart trade deals. The fund is still 98% invested in US dollar denominated bonds.
‘We have been adding at the margin emerging market local bonds. We think there are definitely concerns about exactly what is coming out of the Trump administration.
‘It’s our view the dollar will be strengthening and we’re not sure what’s going to happen with protectionism measures. There are risks involved but here we don’t allocate by sector or by index. We are buying line items,’ he says.
After the impeachment of Dilma Rousseff last year, Brazil continues to work its way out of its recession. Stealey says he believes the change of leadership along with pragmatic monetary policy will benefit Latin America’s largest economy.
Russia, the world’s largest energy exporter, will be buoyed by the increase in oil prices and possibly a softening of its usually tense relationship with the US.
A few months ago, Stealey and his team had Mexico as a top holding, but he has since reduced his position.
‘It looks cheap, but there’s momentum against it. Everyone is reading Trump’s tweets,’ Stealey says.
Trump has recently been threatening foreign car companies saying that if they build a car factory in Mexico, they would have to pay a hefty 35% tax to sell in the US.
‘We have been looking at Mexico. On a long-term valuation play it is cheap, but at the moment the fundamental picture is not particularly strong, especially as we have these tweets about US car production. I think that’s grabbing the markers’ attention now rather than the valuation.’
No such thing as ‘normal’
Stealey’s university roommate has just been initiated into Britain’s Royal Air Force aerobatics display team, the Red Arrows, which has Stealey wondering whether this could have been his path.
However, graduating after the dotcom crash into a weak job market, he instead went for an internship with JPMorgan.
Reflecting on his start in the fixed income world he now realizes that he’s never witnessed a ‘normal’ bond market.
‘We’ve gone through a very strange period in fixed income markets. Quantitative easing was not something you learned about. Zero percent interest rates were unheard of, negative yields were unheard of so it’s almost kind of cool because the rule book has been rewritten,’ he says.
‘I’m pretty sure I had lectures that said the lowest you’d ever get in a bond yield is zero because no one is going to effectively take bonds from a country and pay for doing that.
‘But that is the reality’.
Looking down under
AAA-rated Australia is still delivering decent yields, far above those of Japan, Germany, France and the UK.
With no real ambitions to move rates higher any time soon, Stealey has found Australian government bonds to be a good play to pit against German bunds.
Australia currently has below-target inflation and underwhelming GDP growth, yet their yields have been almost in line with
the US, at a level of about 2.24% at the time this publication went to press.
‘We are expecting that toward the end of this year we will be back in the framework of discussing tapering by the EU central bank, which means German yields move a bit higher from here.
‘So we think spreads between German yields and Australian yields will tighten and that’s how we try to play them.’
The new metrics: what will the market react to?
The trend of rising populism does not look likely to be a label limited to 2016.
‘As we get a lot closer [to Europe’s natiuonal elections], I’m interested to see how the bond market reacts. A year ago I would say we’d be watching polls but I don’t think that’s particularly going to help us, especially after they failed to forecast the upset of Brexit and Trump’s victory,’ Stealey says.
‘The market will still react but I don’t think they’ll be given as much credibility as before.’
Trump’s tweets also fall in this category. Will he continue to move the market with his 140-character musings?
‘It’s unheard of, but you have to effectively roll with it… maybe it’ll calm down if (or once) we see his policies on paper and not on Twitter.’
This article was published in the February edition of Citywire Americas, to get a subscription, click here.