Liontrust Responsible Capitalism Report 2024 - Flipbook - Page 69
Investment process for fixed income
Macroeconomic analysis is used to determine the team’s top-down
view of the world and this helps shape all aspects of portfolio
construction and appetite for risk. After this, the managers aim to focus
on high-quality issuers and believe this can reduce bond-specific risk.
The team’s assessment of quality is a distinctive part of the process,
in which it combines traditional credit analysis with a detailed
sustainability assessment based on the proprietary model.
STAGE 1: IDENTIFYING SUPERIOR BONDS
First, the team selects the bonds that it believes will generate
superior investment performance. The team focuses on
high-quality issues and believes this can enable the team
to reduce bond-specific risk.
A. Find high quality companies
The in-house research includes the following:
ESG analysis
For each company, the team determines the key ESG
factors that are important indicators of future success, and
assesses how these are managed. The team does this
through its proprietary sustainability matrix, which is used by
both the bond and the equity teams. Where relevant, the team
aims to identify companies whose core products or services are
making a positive contribution to society or the environment in
some way. The team believes that evidence of excellent company
management is instrumental to avoiding issues where tail risk is underpriced. Reducing tail-risk is a key element that drives long-term returns
in the team’s bond portfolios.
Credit analysis
This involves a fundamental review of the company to identify its ability
to meet its debt obligations. The team looks at:
• The company’s management in terms of its track record, its
consistency, level of cross involvement, level of control exercised
and make up of non-executives
• Company performance from earnings stability to growth patterns
to relative performance and pricing power
• The business strategy such as its investment strategy, funding and
foreign currency policy, type of growth (eg. M&A versus organic)
and the business risk
• Industry factors including barriers to entry, and industry threats
and patterns
Macroeconomic analysis
The team formulates strategy by looking at the interest rate positioning,
asset allocation and aggregate credit rating exposures based on
macro views. This approach ensures that the investment process
remains balanced, incorporating top-down views as well as bottomup analysis. The team also incorporates other macro influences into
the analysis, including political factors, economic analysis, regulatory
issues and ESG analysis. For government bonds, this involves a review
of the sovereign from an ESG perspective to assess its suitability for
investment. MSCI Sovereign rating data is used as an input into the
process, overlaid with the team’s own analysis. The team specifically
focus on the following:
• Environment – fossil and nuclear fuel usage, water usage, energy
management
• Social – education and technology, provision of basic needs and
the economic environment
• Governance – financial capital and management, political
governance and democratic rights
• Controversies – general controversies, involvement in armed
conflicts and international sanctions. This information is distilled
into a sovereign rating (completed annually) and presented to the
broader team for discussion and approval.
B. Assessing returns versus downside risk
The fund managers assess individual bonds to determine whether they
believe the bonds offer attractive, long-term returns. However, given
the asymmetric risk associated with corporate bond investing, the
probability of default is fully assessed alongside a view of recovery
values for each individual investment.
C. Valuing the bond
Valuations are assessed on the basis of both absolute and relative
returns. Simply put, there is no point in investing in a bond merely
because it is cheap relative to other bonds in the sector if the team
believes that the total returns are not attractive. As such, they look
for opportunities across the capital structure of an issuer and across
markets, i.e. the UK, US and Europe. Within this, the team evaluates
the value of a bond relative to both other corporate and government
bonds. This approach is consistent with the principal aim of delivering
attractive long-term returns to investors.
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