Tim Foster was more than ready for the handoff when Fidelity International fixed income portfolio manager Ian Spreadbury retired at the end of 2018, having been a key part of the succession strategy laid out ahead of the 40-year veteran stepping down.
As part of the well-planned and widely praised handover, Foster and his colleague Claudio Ferrarese joined Spreadbury on the flagship £858m Strategic Bond in 2016.
The duo began co-managing the strategy in April 2017, meaning there was very little disruption when Spreadbury retired the following year.
At the time Foster joined the Strategic Bond team, he had already been with Fidelity International for 13 years.
After graduating with a degree in physics from Cambridge University, he became a quantitative analyst in the investment manager’s fixed income bond team in 2003.
His scientific grounding, especially when it came to maths, helped provide him with an “underlying toolkit”, he says, which made fund management “a natural fit”.
There were four people in the quant team when he started, all of whom have ultimately gone on to become portfolio managers.
In 2007, Foster started running Fidelity’s money market business, a role he would hold for 10 years before taking a step back, becoming a junior manager on the franchise, after he assumed responsibility for a broader range of strategies.
In addition to the six-strong strategic bond family, Foster also manages Fidelity’s inflation-linked bond franchise, “which has around $3bn (£2.4bn), mostly in the Fidelity Global Linked Bond Fund”.
Go anywhere
Launched in October 2009, the go-anywhere Strategic Bond Fund tends, on average, to have a longer duration and less credit risk compared with its peers, given its emphasis on diversification to equity and capital preservation.
It has been a challenging environment for fixed income and the fund is down 11.1% over one year and 4.5% over three. In the 12 months to the end of April, it has fallen by 9.7%.
It would be easy to think the pandemic has been the biggest test Foster has faced during his tenure co-managing the fund, but he points to 2018 as being “a tough year as well”.
With a wry chuckle, he admits it feels a bit like “ancient history”, especially given the time warp we’ve all experienced over the past two years.
“We had the tail end of the Federal Reserve’s last hiking cycle, and real emerging market weakness percolating into other sorts of credit weakness in the second half of 2018. We also had a bit of credit risk in more cyclical sectors and emerging markets in late 2018.”
A year later, the pandemic was emerging, and we are currently in the third month of Russia’s invasion of Ukraine.
“It’s surprising we’ve been through three of these cycles in such a short time,” he says.
“In 2019, things were looking better and spreads were compressing. It got to the point where it didn’t seem like there was too much value in where spreads were, which is why we were quite light on credit risk by the end of the year.”
It was around that time news of Covid-19 started coming out of China.
“Nobody really knew quite what to do,” says Foster.
The team decided it was “prudent to reduce risk even further” and around February 2020 took steps to sell out of some of its subordinated bank paper and “reduce some of the cyclicality of the fund even more”.
Feeling blue
“The worst weeks in mid-March were the closest we have been to a 2007/08 scenario that I’ve seen, where some of the market functioning started to go a bit. We saw the euro/US dollar FX basis widen and people were starting to mutter darkly about treasury market liquidity.”
The macroeconomic environment was looking pretty grim but central banks, armed with the toolkits they had developed during the global financial crisis, quickly stepped in to offer support.
“But in those early weeks in March, we had seen significant widening in credit, especially investment-grade compared with its normal beta, which was underperforming compared with high yield.
“The beauty of that was it meant, in late March/early April, we were able to add some very high-quality companies,” he says, namechecking Intel and Ebay.
“These US blue chips were concerned their commercial paper programmes were shutting down,” Foster says, “so they started issuing investment-grade corporate bonds at a very, very cheap level.
“There was a 310 basis point spread on a 30-year Intel bond, for example, which is absolutely unheard of. To be able to add blue chip, very secure credit, and on long-dated bonds as well, meant we could add a significant amount of risk without tying up too much liquidity.”
The Intel bond was issued on 20 March 2020, not long before central banks started rolling out fiscal stimulus.
“It was a very rapid crisis and that bond rallied 40 points in the space of a month. For me, those are the ideal conditions for the strategic bonds fund in particular.
“We’re relatively defensive and investment-grade focused, so that was a really good example of us just biding our time and adding risk when it’s cheap.”
Light on credit again
The tide started turning in April and what followed was a steady procession of spread rallies that receded in the wake of the various rounds of lockdown and as Covid variants emerged.
“In the summer of 2020, when the EU was talking about its common fiscal plans, that prompted us to add high-yield risk, but more on the defensive side – like healthcare, for example US hospital chains.”
By November 2020, with good news circulating about vaccine programmes, Foster and the team added some airlines and aircraft leasing companies.
“We saw some nice profits in the early part of 2021 as some of the more cyclical exposures rallied,” Foster explains, “but it was a quieter year in terms of active allocation.”
As spreads tightened, the team “lightened up on some of the stuff we added, which meant, at the end of 2021, we were quite light on credit again”.
Hawkish central banks
As for 2022, Foster is keeping an eye on central banks. He is in full agreement that policy needs to be tightened but is wary of the “desire to frontload it”.
“It’s hard for fixed income assets to perform when central banks are talking quite so hawkishly.”
When not reacting to major crises such as 2007/08, Foster says central banks have operated at a fairly leisurely pace over the past 20 years, in terms of traditional policy levers.
Their present efforts to catch up and tighten policy in a short period of time “makes recession really late this year or early next year more likely”.
But how long a downturn could last very much depends on the type of action central bankers take and any further deteriorations in the broader environment.
For example, whether the pandemic rears its ugly head again or there is a further escalation in the war in Ukraine.
One thing Foster finds extraordinary is the Russian invasion, from a macroeconomic standpoint, has produced the same outcomes as Covid.
“We’ve seen bottlenecks, high inflation, companies re-onshoring production processes to ensure supply chains are robust. While the crises have been very different in form, they seem to have the same outcomes, which are upside inflation surprises and lower-than-expected real growth.”
In light of that, the messaging to the Strategic Bond Fund’s investors is that more value can be seen in investment grade rather than high yield.
Once again, it is quite light in terms of credit risk, with euro credit looking “pretty bad”, given the “double whammy of the ECB talking about ending its corporate sector purchase programme and the proximity to the war”, Foster adds.
In terms of duration, “having been modestly light for most of the second half of last year, we were looking for a bit more of a yield fall from Omicron, but we didn’t quite get that because, at the same time, central banks switched to becoming more hawkish”.
“We have been looking to increase that and we brought it up a fair bit in the past two to three weeks.
“We have started to see value on the duration side, having been quite cautious because the movement in that market was so bad.”
Foster initially turned to the US dollar to add duration before looking to the gilt market. However, he expects to “continue to reduce credit risk a little bit at the margin because of the more bearish macro-outlook”.
One particular area lacking appeal at the moment, in light of the slowing global growth and stronger dollar, is emerging market sovereigns.
Whereas pockets of euro credit “look pretty cheap across sectors such as infrastructure and transport, such as European toll road operators”, he notes.
Foster also flags car park operators with “customer traffic being almost back to 2019 levels”, as well as US tech, “which actually seems to be quite cheap at the moment”.
A convergence of “pretty poor equity performance and supply chain hangover worries present some interesting opportunities”.
This article first appeared in the May edition of Portfolio Adviser Magazine
