Swiss asset manager Gam’s liquidation of its €9.5bn (£8.5bn, $10.8bn) Absolute Return Bond fund (ARBF) range last week has sparked debate about whether investors understand the complexities of absolute return-style funds.
The industry was caught off-guard by the suspension of manager Tim Haywood (pictured) in July prompting high levels of redemptions before Gam’s decision to suspend then liquidate the funds amid widespread criticism of the Swiss group’s muddled handling of the situation.
Ryan Hughes, head of active portfolios at AJ Bell Investments said: “the onus is on the investment firm to make sure they are explaining their product in a clear way and their target customer can understand.”
However, International Adviser‘s sister publication Portfolio Adviser understands that despite being marketed primarily at institutional clients, the ARBF range, which was managed by Haywood before his suspension, was available to retail investors.
Morningstar head of UK research Jonathan Miller said that unconstrained funds such as those in the ARBF range required rigorous due diligence because of the complex financial instruments they invest in – which retail investors are less likely to be able to do.
Gam declined to provide a breakdown of institutional versus retail money in the fund range.
Unconstrained bond liquidity concerns
Miller said the fact Gam claimed its ARBF portfolios were liquid but could not meet redemptions was “far from ideal” for a daily liquidity fund.
He noted that many institutional investors would have been forced to ditch Haywood’s funds because they have policies in place which require them to get out if governance issues arise or, in some cases, if there is a management team shake-up.
Retail investors do not have such checks and balances.
Adrian Lowcock head of personal investing at Willis Owen said the remaining managers at Gam after Haywood’s departure would have struggled to offload “naturally illiquid” securities like currency options, which there might not have been a big enough market for.
“Those type of investments take time to sell. The issue with liquidity is if you’re forced to sell, you’re a price taker, not a price maker.”
The Gam Absolute Return Bond fund was down -3.32% and -2.27 in euro terms over one and three years and -3.55% and -4.14% in Swiss Francs over the same time frame.
“At an institutional level, poor performance will not be tolerated for too long,” Lowcock added.
Financial crisis canaries
Gam’s unstrained bond drama has drawn comparisons with other ‘canaries in the coal mine’ in the build-up to the global financial crisis a decade ago.
Murray Gunn senior European analyst at Elliott Wave International likened the frozen Gam funds to the pair of Bear Sterns unconstrained bond funds that were liquidated months before the crisis began. “We wonder whether the world will look back on this week as having been a similar warning sign,” he mused.
Former investment manager at 7IM Anthony Peters was reminded of the freezing of BNP’s structured funds almost exactly eleven years ago, which could not meet redemptions because “they were stuffed with crap for which there was no bid”.
“Gam seems to be, in some way, in a not dissimilar position,” said Peters writing for Blockex.
Lowcock, however, warned against overreaction. “The situation at Gam is not happening in a crisis market – it’s not driven by fear of being the last person holding the low-quality stuff,” he said.
Lowcock added that Gam’s decision to liquidate the funds should ensure that investors – whether retain or institutional – are treated fairly and equally and avoid panic selling.
Derivatives in absolute return funds
The holdings of the ARBF funds, which include complex derivatives and currency swaps, are not dissimilar to other absolute return bond funds out in the market, said Hughes.
“Given the nature of what they’re trying to do – delivering a positive return from fixed interest – it is inevitable there will be an element of derivative exposure.”
The Gam Absolute Return Bond fund’s largest positions at the end of June were in US treasury bonds (4.35%) and another fund within the ARBF range, the Gam Star Dynamic Global Bond fund, (3.14%), according to a factsheet on the Swiss asset manager’s website.
An asset allocation breakdown shows the fund had 32% invested in AAA bonds, 18% in AA bonds, 17.5% invested in BBB bonds and around 7% in A, B and unrated credit. A little over 9% of the portfolio was designated liquidity in the breakdown.
The fact sheet highlights the fact the fund invests in derivatives and the associated risks but does not provide a specific breakdown of the percentage of the fund invested in these instruments.
A PwC report from June 2017 provides more clarity on the role derivatives played in the fund. It shows the Gam Absolute Return Bond fund had roughly €306.89m or 10% of total assets invested in derivatives instruments, spanning futures, forward exchange contracts, options and swaps. The full list of derivatives within the fund spans 40 pages of the report compared with just 10 pages for listed and unlisted fixed income holdings.
The Gam Absolute Return Bond Defender and Absolute Return Bond Plus funds, which also feature in the soon-to-be liquidated range, had €18.87m and €244.37m invested in derivatives respectively, the same report said.
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