An $18 Billion Finnish Bond Fund Tells Why It’s Fleeing the ECBby
The man in charge of investing 16 billion euros ($18 billion) in bonds at Finland’s biggest private fund says he’s “reluctantly” being pushed out of the safest debt markets.
Wilhelm Backlund, who manages fixed income, currencies and commodities at Finland’s Varma Mutual Pension Insurance Co., which oversees a total of 42 billion euros across asset classes, is doing what he can to adapt to the fallout of the European Central Bank’s corporate bond purchase program, which started in June. Bank of America Merrill Lynch has already warned that the ECB’s disclosure that it holds more than two-thirds of eligible corporate debt in the euro zone may be the “catalyst” that pushes investors out of that debt class as they search for better liquidity and pricing.
Backlund says his response to the ECB’s corporate program was “mainly to reduce fixed-income investments on the whole.” Before the purchases started, Varma did some “incremental shifts toward higher emerging market and high yield allocations. The latter, quite reluctantly, I would say, as we do not see the risk-reward as being attractive,” he told Bloomberg.
While the ECB’s purchase program supports the safest corporate debt securities, the cash flow on many of those assets is set to continue shrinking. For investors, holding securities under those terms is insane, according to Juuso Rantala, a portfolio manager at Aktia Asset Management in Helsinki, which oversees about $1.7 billion in investment-grade assets. His goal is to escape the negative rate climate that has started to dominate parts of the Nordic region and euro zone.
“There is absolutely no reason why we would need to buy bonds with a negative yield in the short-end, it’s just crazy,” Rantala said by phone. The best way to generate returns on short-term corporate bonds is to own corporate hybrids, subordinated debt and so-called additional Tier 1 and Tier 2 notes, he said. Though outside the ECB’s purchase program, many of the securities are still investment grade.
Investors hold about 465 billion euros of corporate investment grade bonds at negative yields, which is 11 times as much as they owned in such securities at the start of the year, BofAML estimated last month. Intense demand for fixed-income securities has also dragged down yields in riskier corners of the market. The BofAML index for global hybrid bonds, issued by firms besides banks, was just under 3 percent last week, compared with slightly over 4 percent in January.
Backlund says he thinks the ECB may continue to buy corporate bonds beyond the March 2017 end point it has so far set itself. But further rate cuts are unlikely given the level is already “so low,” he said. The bank’s next meeting is Sept. 8. The ECB kept its refinancing rate at zero and its deposit rate at minus 0.4 percent at its July meeting.