Artesian Corporate Bond Fund A (ETL8268AU) Report & Performance

If you were to take a glass half-full perspective in July, then you may be finding it easier to foresee a softer landing in some parts of the world. In Australia and the United States, inflation and retail sales came in weaker than forecast. In the case of Australian retail sales, that’s three consecutive falls which has only ever occurred previously during the GFC. So for now, government bonds have started to reverse some of the sell off we saw in June, which has positively aided the Fund’s returns in July. The RBA have been vindicated for leaving the cash rate on hold in July, as the subsequent data throughout the month came in softer than the market had forecast. The softer data has allowed the RBA to pause again in August, the first successive pause since April 2022. Whilst the cash rate is now clearly in restrictive territory, we are still likely to see inflation shocks, so the hiking cycle may not be complete for the RBA just yet.

The Fund’s performance was aided by the increased interest rate duration position which was lengthened in June and July. There were capital gains from +85% of the Fund’s bond positions in July. A strong rally in subordinated bank spreads, meant that the Fund’s best performers for the month were Westpac, BNP Paribas, National Australia Bank and ANZ. Small underperformance from the Fund’s positions in Australia Postal Corporation, DBS Bank, Computershare and McDonald’s.

June was a continuation of the market dynamics we saw in May. Lingering inflation induced higher central bank cash rates and higher government bond yields. The Australian yield curve inverted for the first time since 2008, as the risks of a recession rise. In contrast, the labour market remains robust. With that said, it is usually one of the last indicators of a recession. Economic growth was an anaemic 0.2% in Q1, so there is not much wiggle room to protect us from a technical recession like our friends across the Tasman. Hence, the Fund’s credit duration remains below the mandate target of 4yrs. We continue to run a fairly benign beta portfolio, preferring not to add outright risk, instead adding alpha through active management which is incremental to the 5.35% running yield.

The new issue market continues to deliver strong performance. We are starting to see longer dated deals from both financials and non-financials, which is always a sign of a healthy market. In June, we had significant outperformance from the Australian Postal Corporation, Westpac, Telstra, Optus, BNP Paribas, Woolworths and Mercury. Small underperformance from the Fund’s positions in Bank Australia, OCBC, Export-Import Bank of Korea and McDonald’s.

The Fund performed well in May considering the spike (3yrs +0.38bps) in government bond yields, as the fears of lingering inflation in a low unemployment world continue. The ongoing negotiations in the US regarding their debt ceiling, meant that spreads were kept range bound. Over the month we observed some small outperformance in the AUD market compared to the USD market. Outright buyers of fixed rate bonds also emerged throughout the month, keen to lock in attractive yields at these elevated levels. The new issue market came roaring back after a very quiet April. In May we recorded the most monthly volume for 2023, with AUD 14.35b issued. Encouragingly we are now starting to see non-financial bond issuers return to the AUD market. Australian Post, PACCAR, Transgrid, QIC Finance, Ausnet and Mercedes-Benz all issued in May. Outperformance came from the Fund’s positions in Ausnet, Optus, UBS and Woolworths. Relatively smaller underperformance came from the Fund’s positions in Rabobank, Bendigo & Adelaide Bank and Suncorp-Metway.

April was relatively calm across credit and interest rate markets. As were the RBA, who took their first pause since the recent hiking cycle began in May 2022. Combined with no considerable economic data surprises, and the fact that April is seasonally quieter due to holidays; this allowed the market to take a bit of a ‘breather’. Credit spreads edged tighter with very little activity in primary markets, as investors went in search of corporate bonds in secondary markets. We expect the new issue market to come back to life in May, buoyed on by the major banks (Westpac, ANZ and NAB) who come out of mid-year reporting season blackout.

The Fund had strong outperformance in April from its positions in Commonwealth Bank of Australia, Telstra, National Australia Bank, Optus and Woolworths. The Fund had small underperformance from its positions in BNP Paribas, McDonald’s Corporation, Bank of Queensland and SGSP Australia.

An eventful month to say the least, as a US regional banking crisis was followed by the collapse of a Swiss banking giant founded in 1856. Whilst it was inevitable that the aggressive hiking of interest rates around the globe would eventually break something, the lack of risk management in the case of SVB was quite astounding. Credit spreads of hybrid securities (no exposure in the Fund), gapped wider as investors took a sell first, ask questions later approach post the UBS merger with Credit Suisse and the zero-value applied to the latter’s hybrid (AT1) securities. The quasi-equity risk of hybrids, which is well understood by institutional investors and conversely mis-understood by retail investors, led to a large dispersion in pricing between listed and unlisted hybrids.

Whilst credit was wider, the Fund’s modest interest rate duration exposure aided the month’s performance. In addition, the Fund’s healthy running yield also provided a nice counterbalance to the widening in credit spreads. Underperformance in March came from the Fund’s positions in BNP, Goldman Sachs, Air New Zealand, Bank Australia and Macquarie Bank. Outperformance came from the Fund’s positions in the Australian Postal Corporation, Nextera, Lendlease, Computershare and Optus.

Another solid month of performance for the Fund. The Fund’s underweight positioning to interest rate duration protected some of the downside, as 3yr yields spiked 40bps. Credit continued to rally throughout February, although credit spreads now look reasonably priced. The elevated running yield of the Fund also made a meaningful contribution to this month’s returns.

The Fund participated in a number of new issues throughout the month. Some significant outperformance in primary markets was another positive aspect in February. ANZ issued a 15yr (10yr call date) subordinated debt bond in February which rallied 58bps, so along with the Fund’s other ANZ positions, it was this month’s best performer. The Fund’s other top performing positions were Macquarie Bank, Optus, Woolworths and Bank Australia. No underperformance in February, as every issuer produced capital gains for the Fund.