European high-yield bond spreads narrowed in May, driven by strong corporate earnings and investor demand, reflecting robust market confidence and providing a favorable backdrop for corporate refinancing and new issues.
This edition of the Morningstar Fund Radar shines the spotlight on the Robeco European High Yield Bonds fund.
Since the end of October spreads in the European high-yield bond market have already fallen by more than 150 basis points to 329 basis points as of the end of May, for an effective yield of 6.1 per cent for the ICE BofA Euro High Yield Index. The spread on BB bonds at the end of last month was around 200 basis points versus 420 for B-rated bonds and above 1,300 basis points for the riskiest CCC and lower-rated bonds.
The spread decline has been driven mainly by solid corporate earnings and the appetite among European investors to invest in this asset class. Net inflows over the first five months of this year were 3.5 billion euro, compared to 5.5 billion euro over the last 12 months.
Active primary market
The primary market is very active and there remains strong demand for new issues, according to DWS’ European high yield team, which also allows companies to proactively address their future refinancing needs. Both new and existing issues for refinancing are being absorbed smoothly. In addition, over 22.7 billion euro worth of CLOs were issued in Europe over the first five months of this year, according to Bank of America.
CLOs acquire various loans, usually issued by companies with lower credit ratings, and then package them into separate categories to sell to investors. They got a bad reputation at the time of the global financial crisis in 2008 but have since regained favour with investors.
The average fund within the European high-yield bond category managed to present a year-to-date return of 2.1 percent in euro terms. In doing so, however, it lagged behind global high-yield bond funds which, partly driven by a strong dollar, rose 3.6 percent so far. Over the past ten years, returns in US high-yield bonds have averaged 3.1 percentage points higher annually.
Active management pays off more often
Although high-yield bond markets are subject to macroeconomic and policy factors like other fixed-income markets, they are often dominated by company- or sector-specific developments. These stories, according to active managers, highlight how crucial active security selection is within this universe.
The likelihood of a fund’s survival is closely related to its success rate. The reason why most active funds fail is because active funds close prematurely, often because of underperformance compared to their direct competitors.
Morningstar data show that actively managed funds within the EUR high yield category are more likely to beat their passive competitors than many other fund categories. Our Late 2023 Active Passive Barometer indicates that some 60 per cent of all actively managed European high yield bond funds outperformed the passive alternative last year. Although the success ratio over five and 10 years falls back to 40 per cent and 36 per cent respectively, the percentage remains significantly higher than, for example, Europe ex-UK equities at 21 per cent or the European large cap blend and growth categories that have a success ratio of 9 per cent and 12 per cent respectively over the last 10 years.
Robeco on Morningstar’s Fund Radar
Strategies that appear prominently on Morningstar’s radar either have a strong management team and a robust investment process in the qualitative opinion of fund analysts, or these qualifications are attributed based on an algorithm that evaluates mutual funds based on the same framework. In this article, we highlight a fund that meets these criteria and receives the highest distinction from Morningstar analysts for both its team and investment process, resulting in a Morningstar Medalist Rating of Gold.
Robeco European High Yield Bonds is an excellent choice for investors looking to invest in European high-yield bonds. This fund can boast solid long-term performance with it finishing in the top quartile of the European high-yield bond category over the last 10 and 15 years (ending May 2024). This is partly due to its earlier cautious approach and preference for higher-quality issuers.
Top team
Principal managers Roeland Moraal and Sander Bus have been watching over this portfolio since 2005 (although Bus was formally added to the management team in 2017), but that did not stop Robeco from looking to the future. In October 2023, the Rotterdam-based fund house added Christiaan Lever and Daniel de Koning to its management team. All four managers participate in top-down macro and bottom-up selection interviews, but Bus and Moraal remain ultimately responsible for positioning and performance.
The managers can lean on an experienced team of 21 credit analysts. According to Morningstar’s fund analysts, this team is among the strongest in the industry, with an average of 16 years of working experience, including a mix of more experienced professionals and new talent. Only a handful of analysts are based outside Rotterdam (three in New York and Singapore).
Sound approach
The strategy is mainly based on stock selection, with top-down beta management playing a smaller role. Managers do not make active duration decisions, but try to reduce credit risk as the business cycle matures, and increase it again when price dislocations create value opportunities. They typically avoid concentrated stakes in individual issuers and typically spread their investments across about 100 issuers.
Given their preference for solid companies, the average credit rating tends to be slightly higher than the Bloomberg Pan European High Yield Index benchmark. This approach also explains why the fund generally held up better than the competition during periods of market volatility.
Large, but not too large
The capacity management for this strategy is thoughtful. In September 2020, when the assets managed by Robeco’s high yield team had reached 12 billion, the managers closed the fund to all investors. When total assets fell, the strategy was reopened.
Since then, the capacity limit has been revised to 14 billion because of an increase in the size of the investable universe (providing more breathing space in managing liquidity). As of December 2023, total assets stood at nine billion euro.
Thomas De fauw is manager research analyst at Morningstar. Morningstar analyses and evaluates investment funds based on quantitative and qualitative research. Morningstar is one of Investment Officer’s knowledge partners.