by Jake Moeller.
Jake Moeller reviews highlights of a meeting on February 26, 2016, with Chris Hiorns, fund manager; David Katimbo-Mugwanya, fixed interest fund manager; and Philip Baker, head of retail distribution, EdenTree Investment Management.
There was a time when ethical investing—as it was simply known—stood on the periphery of mainstream investment culture. Today, the broader concepts of socially responsible investments (SRIs) are much more widely recognized and are indeed often expected from a fund manager. There are many fund houses that have long-established traditions of ethical or SRI screening or have developed sophisticated engagement policies. Those that don’t are increasingly seeking advice in this area.
Despite the increased awareness of SRIs, however, investors have not flocked to them. According to Lipper data, as of February 2016 less than 2% of all assets in all Investment Association sectors are invested in funds with an explicit ethical screen. For investors concerned that SRIs—with their often-reduced universes—are in some way “suboptimal,” EdenTree Amity Sterling Bond Fund not only reveals the interesting investment opportunities ethical screens produce but proves that performance need not be compromised as a result.
EdenTree is the recently rebranded investment arm of Ecclesiastical Insurance Group (EIG), which is owned by the charity Allchurches Trust and has a 130-year history of values-based investing. Originally formed to manage EIG balance sheet assets, EdenTree has broadened its scope to retail and external institutional investors and now has some £2.3 billion of assets under management.
EdenTree’s SRI approach is highly integrated at every level of stock selection, incorporating negative screens (companies earning more than 10% turnover from alcohol production, gambling, tobacco, weapons, etc.), positive screens (companies with positive sustainability trends), as well as proactive engagement and voting on individual holdings. EdenTree has been assessed under the UN PRI protocols, scoring the maximum A+ rating, and all EdenTree Amity funds are reviewed quarterly by an expert panel consisting of independent members drawn from the clergy, environmental specialists, and SRI consultants.
Table 1. Five year performance of EdenTree Amity Sterling Bond Fund within quartiles of IA £ Strategic Bond sector (to February 29, 2016)
The fund is flexible in nature, investing in a broad range of sterling fixed interest instruments, including gilts and corporate bonds, and it uses all the analytical tools you would expect to see with any large fixed income manager. A notable difference in this fund is its willingness to invest in smaller lines of credit such as preference shares and permanent interest-bearing shares (PIBS). “Some of our PIBS acquisitions,” states Mr. Hiorns, “are £100,000 or £200,000 lines of stock from individual investors. Large asset managers simply are not interested in dealing with these amounts.”
The portfolio does exhibit some unusual characteristics due to its values based philosophy. There is some 23% of the portfolio invested in unrated securities (the IA £ Strategic Bond sector average is 8.6%) and a large bias to financials. Mr. Hiorns is quick to defend these exposures: “Even though some of our preference shares and PIBS don’t have ratings, they are mainstream securities issued by quality institutions such as RSA and Aviva.” There is also a lot of exposure in the portfolio to building societies (9% of the total portfolio). “We feel that they are good quality credits,” states Mr. Hiorns. “Coventry Building Society, for example, has a Tier-One ratio of nearly 30%, which is pretty favourable compared to a large rated bank that may have just 12%.”
Table 2. Lipper Leader Scores for EdenTree Amity Sterling Bond Fund (as at February 29, 2016)
There is a certain intimacy the EdenTree team seems to have with its holdings. The screening process reveals some unique opportunities such as the retail charity bond Hightown Praetorian, which provides social and shared-ownership housing. “It is probably something I wouldn’t consider if we didn’t screen,” Mr. Hiorns states, “but we get invited into the Retail Charity Bond Market and there are some really strong opportunities here that stand up on their own merits as strong credit instruments. These may often be overlooked by larger non-SRI investors.”
EdenTree Amity Sterling Bond Fund has a distribution yield of over 5%. “We don’t have a specific yield target,” states Mr. Hiorns, but he alludes to a barbell strategy where EdenTree’s willingness to invest in PIBS and preference shares allows it to maintain a longer-end yield on assets, while maintaining shorter-end exposure to reduce interest rate risk. “At 6.2 years duration we are shorter than our average, and we think this is a sensible place to be–there isn’t too much extra return available by moving out.” Mr. Hiorns recognizes that interest rate rises may now have been pushed back, but he points out that there are some macro tail winds such as low unemployment levels that will benefit corporate spreads if the market can shake off its risk aversion.
The performance of the fund has been robust, with the fund’s longer-term track record being near the top of the second quartile of the Sterling Strategic Bond sector (see Table 1), and it has strong Lipper Leaders scores across three and five years (see Table 2). The fund also exhibits favourable risk/ return characteristics over five years, being ensconced firmly in the preferred north-west quadrant (see Table 3).
The fund was particularly durable during the Global Financial Crisis. “We haven’t always been so highly exposed to financial institutions,” Mr Hiorns explains. “We didn’t invest in mortgage-backed securities and were underweighted in banks then.” There was a slight blip in performance in 2012, when an announcement that Nationwide required more capital adversely affected all building societies. “We maintained that our building society exposure was sound, and the market eventually realized this and we were able to recover well,” states Mr. Hiorns.
Table 3. Five Year Risk Return chart of EdenTree Amity Sterling Corporate Bond Fund within IA £ Strategic Bond sector (to February 29, 2016)
It is tempting to exaggerate the concentrations of this fund. “This isn’t a bizarre portfolio of marginal holdings,” states Mr. Baker. “It’s a mainstream portfolio, where our expertise creates exciting opportunities at the margins.” It holds the majority of its investments in investment-grade credit and indeed holds a higher than sector average in BBB holdings (42%). The financials exposure itself is highly diversified, with holdings across asset managers, high street banks, nonbank financial institutions, and real estate companies.
The fund at £85 million is just reaching critical mass, and with capacity constraints being unlikely until £300-£400 million it would be an interesting proposition for investors concerned about concentration risk in their other bond holdings. The very pure SRI overlay and willingness to venture off-piste offers some unique securities exposures, but there is no sacrifice of technical expertise from a compact and highly experienced bond team. Indeed, there are a number of funds in the EdenTree suite that are performing well and winning Lipper awards. EdenTree appear to be good ambassadors not only for SRI fund investors.
This material is provided for as market commentary and for educational purposes only and does not constitute investment research or advice. Refinitiv cannot be held responsible for any direct or incidental loss resulting from applying any of the information provided in this publication or from any other source mentioned. Please consult with a qualified professional for financial advice. The author does not own shares in this investment.