News and Insights

The Fund delivered +0.75% in March, 8.09% over 12 months and 6.49% annualised since inception.

We are pleased to report the Fund’s portfolio of assets continues to perform strongly, and we believe, is well-positioned to continue delivering strong income returns with capital stability.

Over the past month, news headlines have reported on the challenges faced by US and European banks. While the media has focused on corporate missteps, we are interested in how loans have performed individually and when compared to broader markets. As a fixed-income investor, our main focus is on investments secured by underlying loans. Therefore, our first line of defence that protects our capital and investment return isn’t the institution as it is with equity, equity-like and corporate loan investments, but rather the performance of the underlying loans which continue in many of these cases to perform strongly.

We haven’t seen the same missteps locally given the very different construct of our banking/financial system and regulatory oversight. However, we are starting to see some key risk measures increase. Risk metrics such as personal insolvencies, loan arrears and defaults have fallen sharply below long-term averages since 2020 when consumer spending slowed and stimulus measures increased. This wasn’t a new norm but rather a point-in-time dynamic that we are now seeing fade with these measures moving towards longer-term averages. While such an increase can be sensationalised, it has been our long-held view that this would occur, and thus investment decisions have been assessed on higher stress rates. For instance, personal insolvencies in Australia are projected to increase, but even the Australian Governments upper bound projection of 35,000 in FY 30 June 2024 is not particularly elevated compared to longer-term averages, with an expected forecast of 25,000.

The observation that key risk measures are increasing is leading some to believe that interest rates have peaked locally, suggesting now is the time to add duration (buy longer-term bonds) to your portfolio. The basis being a recent downbeat consumption, inflation reading, and issues abroad reduce central banks’ ability to lift rates further. One could also argue interest rates might trend higher by examining longer-term data and that inflation remains above the RBA’s target. Selecting the right one will see positive fixed-income returns. Selecting the wrong shall likely see negative returns. Our preferred approach is to remain short-duration or select shorter investments focusing on finding assets that generate an attractive return with capital protections rather than trying to correctly forecast an inherently unknown interest rate path to deliver a positive return.

Beyond term deposits – What does a modern fixed income portfolio look like

Term deposits (TD’s) have long played an important role in many portfolios, providing both an income stream and a predictable return profile with capital stability, particularly for those who qualify for the Australian Government Guarantee. With increased global financial market volatility, many investors are asking what other low-volatility assets can help anchor their portfolio to chart a more predictable path through global uncertainty.

In approaching this, one may ask “how much more can I get from investing in fixed-income”. While important, this isn’t the right question to ask. A better question to ask is, “If a government-guaranteed term deposit is near zero risk, how much more risk am I willing to take?” Firstly, this depends on what role would this allocation plays in your portfolio. For example, is it similar to a term deposit with the primary drivers being income and capital stability or is it trying to deliver high returns acknowledging the greater risk and volatility that it entails?

Investors may also consider, where is this money coming from. For example, if the proposed investment amount is being held in cash and an investor isn’t trying to increase the portfolio’s risk budget or risk appetite, this suggests a lower-risk form of fixed income is appropriate. Should the money come from selling equities which many regards as higher risk, and there is no desire to change the portfolio’s overall risk profile, perhaps there is a greater risk appetite.

Investment options and varying degrees of liquidity

Examining risk further, there are three very broad categories that an investor should consider, being liquidity, investment term, and appetite for capital loss. In Australia, there are several investment options that offer varying degrees of liquidity. Some solutions offer the ability to exit their investment daily, either by redeeming from a fund or selling it on an exchange. Whereas other options offer less liquidity such as monthly redemptions or in the extreme, impose ‘lock ups’ which means an investor cannot access their capital during that term. It’s worth noting here that investing through a Fund which offers say daily pricing but is investing in illiquid assets should be considered differently from a Fund with daily pricing yet holds liquid assets. In general, the less frequent the redemption terms are, the higher the expected return. Practically speaking, an investor could ask, am I willing to forgo the ability to sell my investment from a daily schedule to monthly in exchange for a higher return?

Liquidity vs Duration

When building a modern fixed-income portfolio, it’s important to consider the ‘duration’ or ‘maturity profile’ of your investments. Simply put, this is how long your capital will be invested before it’s returned.  This is different from liquidity which recognizes you may be able to sell that investment either in the market or by redeeming from a fund. By way of example, purchasing a 10-year Australian Government bond may be quite liquid in that there is an established market to sell them however it is the longer duration or longer maturity in that technically, capital isn’t repaid for 10 years. The maturity influences the investment’s risk profile by making its current price more sensitive to changes in interest rates. If an investor believes interest rates are high and are likely to fall, one may prefer a longer maturity asset where its price rises as interest rates fall and vice versa. If an investor doesn’t wish to take on this risk, a short-maturity investment may be more appropriate as historically, its value little changes with interest rates.

Understanding the Asymmetric Return Profile: Why Fixed Income Can Be A Safer Bet.

Investing in fixed income requires an appreciation of how to differentiate it from other asset classes such as equities. For example, fixed income has, what is known as, an ‘asymmetric return profile.’ That is, the maximum return an investor can achieve is the expected yield to maturity (excluding any trading gains/losses) although they could lose 100% of their capital whereas equity can deliver the same downside but with a theoretical infinite return upside. This makes Fixed Income sound like a poor investment until one adjusts for the likelihood of those outcomes. A key difference between fixed income and equity is that traditional fixed income has a contractual obligation to make regular interest or coupon payments whereas, with equity, that decision is purely discretionary. In the event of tougher times, a fixed income obligation ranks above equity in that it must be repaid before an equity investor and therefore, is considerably lower risk. Fixed income noteholders may also impose specific so-called ‘covenants’ which give them greater control over the counterparty. For example, if any of the fundamentals of that counterparty deteriorate then there is a contractual obligation to have it repaid in full. Over our 7-year track record, we have found such covenants play a critical role in protecting capital with an investor in our flagship Fund investing $100 at inception would today be worth $153.55 and over that time, lost just $0.005. This compares to an equivalent investment in Australian Shares being worth just $146.54 (assuming equivalent timing and reinvestment of all dividends).

Once an investor understands their need for liquidity and how exposed they wish their investment to be to interest rates, one can more readily reduce the range of possible investment solutions before making an assessment on the chance of capital loss within each. For those who are seeking greater liquidity, public market bonds while lower on the expected return spectrum, are some of the most liquid. For investors willing to forgo some liquidity in exchange for a higher expected return, then there are a range of Private Credit Fund Managers in Australia who primarily focus on lending to non-investment grade corporates, financing development sites, or so-called asset-backed securities in which Manning specialises where investments are secured by hundreds if not 1,000’s of underlying loans.

As prefaced before, fixed income is all about avoiding capital loss and therefore, extracting the maximum benefits of this asset class. Being aware of and able to assess the risks is the key to investment success.

The Fund delivered +0.67 in February (noting February being a shorter month and therefore returns were marginally softer), 7.76% over 12 months and 6.46% annualised since inception.

We are pleased to report another strong return, continuing to outperform the RBA cash rate by 5.94% (12 months). Investors will note the higher RBA cash rate, which lifts the Fund’s return objective and, importantly, the return paid to the Fund on underlying investments. We see this inflation-fighting feature (i.e. returns post the impact of inflation are of the utmost importance to preserve the real value of capital) as a key benefit of the Fund and one naturally afforded to the Fund given the variable rate investments that we make.

Despite the Fund’s higher expected returns, our approach to risk management remains unchanged. We acknowledge the potential for the local economy to remain robust and therefore deliver further interest rate increases or to substantially slow, both of which puts pressure on investment portfolios. With that outlook, the team continues to insist on strong structural protections to protect our capital, maximising the benefits of diversification and remaining ‘short-dated’ or investing in shorter-term opportunities which over our history has proven to offer greater portfolio flexibility and lower risk profiles. We remain very active in managing the portfolios, mainly as credit spreads are wider than 12 months ago. Given the short dated nature of the portfolio, we continue to negotiate higher returns on equivalent assets to provide ongoing attractive return opportunities for the Fund.

We also note commentary in the market regarding some credit funds charging upfront fees (in addition to their ongoing management fees) on underlying investments and not passing these on to investors. Since our inception in 2015, all fees and returns paid by underlying investments are delivered to the Fund and therefore, investors.

The Manning team continues to be a substantial investor in the Fund alongside our clients. We are committed to continuing our seven year track record of delivering an attractive inflation adjusted return to our investors with strong capital stability, and very carefully investing the capital in select opportunities which we believe will perform through the economic cycle.

The Fund delivered +0.74% in January, 7.45% over 12 months and 6.43% annualised since inception.

A key feature of the Manning Monthly Income Fund is its flexibility to move in and out of Australian credit sectors such as mortgages, consumer and business loans as fundamentals deteriorate or as superior opportunities present. Therefore, we are constantly assessing if the Fund should participate in each sector given the economic outlook and fundamentals within each. By contrast, single asset class funds (e.g. mortgage funds) are far more limited in their ability to reduce exposure to a sector in times of stress.

Manning’s recent quarterly macroeconomic outlook forum showed that the Australian property market and its impact on the economy is an important factor to consider. Our research found that while some parts of the property and mortgage market displayed poor fundamentals, attractive opportunities still exist when taking a conservative and diversified approach.

This approach focuses on targeting lower, loan-to-value ratio, more resilient assets, and lending only on a short-term basis. We deliberately avoid areas that we believe shall not perform through the cycle such as construction finance, rather favouring assets which would be attractive to a wide variety of potential buyers in the unlikely event of the asset not performing. With the property market changing in response to higher interest rates, it further highlights the need to make shorter-term investments where we are not locked into longer-dated assets. We are constantly evolving our approach in this sector although the overarching principles remain unchanged and, over 7 years, has resulted in no loss of capital, interest, or fees.

We are pleased to report strong client growth from new financial advisers seeking to diversify and reduce equity market risk and capture the value of the higher RBA Cash Rate, which continues to lift our expected return target to the current level of 8.35% net of fees.

The Fund delivered +0.72% in December, 7.15% over 12 months and 6.40% annualised since inception.

There are several Fund features that investors like to discuss, namely the significant number of underlying loans within the portfolio (circa 9,500+) and diversification that this achieves, the short-dated or shorter-term nature of those loans and the contractual nature of loan repayments, which has delivered consistent investor returns. Further to this, investors have recently shown increased interest in the Funds’ Sharpe Ratio.

A Sharpe Ratio is a quantitative measure of a Fund’s risk-adjusted returns. It calculates this by determining the average monthly return an investment has achieved over a period, in our case the prior 3 years. It then deducts the so-called ‘risk free rate’ being the RBA cash rate recognising that for a rate of return to be attractive, it must exceed what an investor can achieve in near zero risk investment. The Sharpe ratio then assesses how stable or volatile those monthly returns are and finally divides the average monthly returns less the risk free rate by this number. In summary, for a Fund to achieve a high Sharpe ratio it must firstly, deliver an average rate of return well above the risk free rate, and ensure that it consistently does so. The Sharpe ratio penalises a Fund that can only deliver one and not the other making it a very useful data point for investors seeking an attractive rate of return that is consistently delivered.

The Manning Monthly Income Fund’s Sharpe ratio is 23.36.

The Fund delivered +0.71% in November, 6.91% over 12 months and 6.37% annualised since inception.
Fund investors shall welcome the higher RBA cash rate increasing the Funds targeted return to 8.10% (p.a. as at December 2022) net of fees, comparing very favourably to what many predict will be a soft year ahead for equity markets.

In January, we outlined the key areas to watch in 2022: inflation, the removal of stimulus, Australian property, and the more hawkish global central banks. While these dominated investor concerns through 2022 and, at times, created intense market volatility, none have caused the widespread dislocation that some suggested. For example, despite the most prolific increase in the RBA cash rate in living history, unemployment which we see as a crucial barometer of economic health, remains at record lows, with households having substantial savings to buffer them against a more challenging 2023. Australian property has fallen in value, although its path suggests an orderly market dynamic without signs of distress, such as forced sales.

Looking ahead to 2023, the negative wealth effect of falling house prices, the slowing of excess household savings spending, the projected increase in unemployment, and higher mortgage repayments for many mortgage holders may drag economic growth lower. Fading employer optimism around future growth could reduce business investment and potentially lead to greater restraint in wage negotiations, further restricting growth. However, it is unlikely that the economy will slip into a deep recession. Australia benefits from low government debt compared to other developed economies and interest rates have risen, which provides scope for stimulus, although the government and RBA are likely to be cautious in their approach.

We see little change needed to the Funds construct, which has focused on:

• prioritising opportunities that are secured by a hard asset that could be sold to repay our investment (for example, low loan to value first mortgage loans)
• focusing on ‘through the economic cycle’ sectors being sensible consumer, business and mortgage-related transactions
• retaining the short maturity nature of assets to ensure we can continue to pivot as the facts change (the average maturity of our portfolio is 7 months)
• and most importantly, taking a risk-first approach to assessing every opportunity rather than being attracted to higher-yielding opportunities.

These factors have added considerable value to Fund investors in 2022 and we believe they shall continue to do so in 2023.

As our final note for the year, the Manning Asset Management Team wishes to thank our clients, their financial advisers, asset consultants, wealth groups and institutions who use or recommend our Fund. We wish you an enjoyable and safe festive season and look forward to delivering an industry-leading return on your capital in 2023.

The Fund delivered +0.69% in October, 6.64% over 12 months and 6.33% annualised since inception.

We are pleased to report the Fund’s portfolio of assets continues to perform strongly, and we believe, well positioned to continue delivering strong income returns with capital stability. Returns were particularly strong in October due to high levels of deployment.

Inflation remains at the forefront of investors’ minds as the previous positive indicators of economic health, such as strong employment, high savings rate and solid retail spending, are now seen as key inhibitors to stabilizing our economy. The strength of these indicators has resulted in more liberal use of monetary policy, seeing one of the sharpest rises in interest rates in modern history, increasing the volatility of asset prices and making forecasting future states more problematic. It is therefore worth outlining how we approach the issue when making investment decisions on behalf of the Fund.

Within a fixed income or credit portfolio, investors can determine how long they invest before their capital amount is repaid (assuming the asset performs), a feature that other asset classes, like equities, typically do not share. This is typically referred to as ‘short dated’, an investment term of up to 12 months or ‘long dated’ where investment terms can reach 5 or 7 years until scheduled repayment. Manning has long favoured a short-dated investment approach that enables the Fund to be more actively positioned to suit the economic environment, with the Fund’s investments being regularly repaid. For example, the Fund currently has a weighted average life of 10 months or in other words, invested capital shall be on average returned in 10 months’ time. Compared to peers within the Diversified Credit universe, the average is 44 months or 4.5 times longer. We believe this has been particularly beneficial/added considerable value in, firstly, enabling us to be far more active in pivoting the portfolio towards areas which display strong fundamentals and secondly, preserving the value of the Funds holdings given the more imminent return of that capital. See peer relative performance below, where the Manning Monthly Income Fund has been the top-performing Fund over 1, 3 and 5 years.

(Investment Centre, Money Management, Nov 2022)

In summary, we have been actively managing the Fund to favour more short dated assets where we are less reliant on predicting the future. By reducing the reliance on longer term forecasting of economic conditions, we believe a superior return which is importantly, more stable, can be delivered.

A short-dated portfolio is appropriate given the uncertain economic times. While that view is unlikely to change in the short term, the need to add longer dated assets will likely re-emerge in the medium to long term. For example, locking in higher interest rate loans when global interest rates are falling is an attractive way to generate an additional return, providing the portfolio retains its flexibility to change and adapt to the market environment. We do however, feel this is some time away.

Josh Manning, Portfolio Manager at Manning Asset Management, and Charlie Viola, Partner & Managing Director – Wealth at Pitcher Partners, discuss interest rates, property prices and implications for portfolios, and the role of fixed income and credit in today’s investment environment.

Disclaimer:

This video may not be copied without the prior consent of the issuer Manning Asset Management Pty Ltd AFSL 509 561, ACN 608 352 576. This podcast is intended for use only by persons who are ‘wholesale clients’ within the meaning of the Corporations Act. It is intended to provide general information only and has been prepared without taking into account any particular person’s or entity’s objectives or needs. Investors should, before acting on this information, consider the appropriateness of this information having regard to their own situation. While due care has been taken in the preparation of this podcast, no warranty is given as to the accuracy of the information. Except where statutory liability cannot be excluded, no liability will be accepted by Manning Asset Management for any error or omission or for any loss caused to any person or entity acting on the information contained in this podcast. We do not guarantee the performance or success of an investment and you may lose some or all of the capital invested. Past performance is not a reliable indicator of future performance.

The Fund delivered +0.61% in September, 6.53% over 12 months, as Fund returns continue to lift alongside a higher RBA cash rate as anticipated. At the same time, key risk measures across the Fund are at or below longer-term averages.

The Fund invests across multiple sectors, including strictly first ranking Australian mortgages, which have performed without loss since inception of the Fund seven years ago. Across that seven year period the property market has risen, fallen, risen and now falling once again, with the latest price reductions drawing some media attention and, therefore investor interest. We have summarized our views on this dynamic below and the implications for the Fund.

While we are now seeing property prices decline from their peaks (driven by increasing interest rates), we still expect this portion of the portfolio to perform well and indeed expect to see significant opportunities for further investment as prices settle at a reduced level. The factors that support this view and opportunity are outlined below:

• Our exposure to the sector is via a first mortgage at an average loan to value ratio of 59.12% providing a significant buffer against any current or further reduction in property prices
• We focus on short term exposures (typically around 1 year) so have regular opportunities to reprice and reassess risk as markets change
• Unemployment is the biggest driver historically of mortgage defaults and it is currently at historic lows
• We avoid the highest risk parts of the market such as construction lending
• We diversify our portfolio across different borrowers and geographies to minimise the impact of any particular loan on the performance of the book
• The macro economic environment and outlook (including inflation levels) in Australia is better than most other regions of the world and the RBA and government has considerable capacity to use monetary and fiscal policy to stimulate the economy again if required

In summary, Australian mortgages remain an attractive sector for the Fund today, provided we take the necessary precautions as outlined above. In some regards, less attractive fundamentals can also skew the market in our favour as other lenders, namely banks, pull back, leaving an even larger addressable market with only so much demand to meet it, helping to lift expected returns as we have experienced.