Inflation linked bond fund delivers


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Clive Tompkins: Hello Clive Tompkins reporting for the Finance News Network. Joining me from Fund Manager Antares Capital to talk about the inflation linked bond market is Portfolio Manager, Tano Pelosi.
Tano welcome to FNN. Can you start by introducing Antares Fixed Income?

Tano Pelosi: Antares Fixed Income is part of the Nabinvest division which is the direct asset management arm of the NAB Group. Antares Fixed Income as a team is comprised of eight individuals covering the spectrum of Australian fixed interest, managing $17 billion of which inflation linked bonds are a significant proportion. The business itself has been around since the early nineties.

Clive Tompkins: Thanks Tano, inflation locally has been at the upper-end of the RBA target. Do you see this rising further in the near-term?

Tano Pelosi: Possibly, but it’s not our base case given the potential for some give back from early inflation relating to food stuffs, as a result of one-off events such as the cyclones earlier in the year. That in conjunction with a persistent elevated currency is keeping import prices in check.

Clive Tompkins: Good. So what impact do you think the European debt crisis might be having on inflation?

Tano Pelosi: The European debt crisis is working in a similar direction in that it’s negatively impacting on asset prices and on confidence, and is very likely to have a reducing impact on inflation over time, as it potentially has some fall-out on economic activity and prices generally.

Clive Tompkins: Okay so what is your medium to long term view for inflation locally?

Tano Pelosi: We think there are risks for inflation being much higher over the medium to long term and there are three factors, which I would like to outline why that might be. Firstly, we’re seeing a dramatic increase in money supply across most advanced economies. And for those economies that are grappling with near-zero interest rates, they’re actually engaging quantitative easing, which is effectively printing money to generate inflation to drive real bond yields lower, to encourage business investment.
Secondly, we’re seeing worrying signs that there are political pressures being brought to bear on central banks to weaken their resolve in fighting inflation, given the problems elsewhere that are more structural in nature. And thirdly, Australia continues to be anchored to Asia which is one of the fastest growth regions in the world. And so, as long as that continues we think inflation will persist.

Clive Tompkins: Now Tano you’re the Manager for the Antares Inflation Linked Bond Fund. What is the bond market telling us about the outlook for inflation?

Tano Pelosi: The bond market is basically telling us that inflation will average around 2.6% over the next five years. We think that’s too low. In other words we think inflation will be much higher than that.

Clive Tompkins: So Tano, how have inflation linked securities performed this year?

Tano Pelosi: The asset class has performed very strongly. In fact over the last two years, over the twelve months to September, returns have been in the order of 11%. That compares with 5.8% for five years, which includes the GFC and a little over 8% for the last ten years.

Clive Tompkins: And Tano, what has driven those very impressive returns?

Tano Pelosi: Well over the last twelve months, in fact over the last twenty-four months, we’ve had the planets aligning in the sense that bond yields have been falling dramatically, as there has been a flight-to-quality. And at the same time, inflation’s been rising domestically quite rapidly and in conjunction with each other, producing very strong returns for the inflation linked asset class. But looking forward, we would expect that inflation itself will be a stronger contributor to returns rather than just capital.

Clive Tompkins: So who invests in inflation linked bonds?

Tano Pelosi: Well traditionally it’s been pension funds, general insurance companies, life insurance companies. Institutional investors that have looked for diversified returns, low risk and insurance against inflation shocks. But more recently, we’re seeing a broader set of investors looking at this asset class with strong interest.

Clive Tompkins: And what is the size of the inflation linked bond market here in Australia?

Tano Pelosi: The inflation linked bond market in Australia is approximately $30 billion in size. And we’re seeing a very strong commitment from the Commonwealth Government to continue growing that market over time.

Clive Tompkins: Looking at your Fund Tano, how long has it been going and what is the typical investment horizon?

Tano Pelosi: The Antares Inflation Linked Bond Fund was established in June of this year, and it’s benchmarked against the UBS Naught to Ten (Year), Government Inflation Index, which is roughly six years of duration.

Clive Tompkins: And what are some of the features of the Fund?

Tano Pelosi: Well the Fund invests only in Commonwealth Government and State Government debt. It has a strong emphasis on liquidity and quality, and also maintaining a very low volatility of returns.

Clive Tompkins: Now to your investment style. How would you describe it?

Tano Pelosi: In short the investment style is active within a totally risk controlled framework, with a scenarios-based approach underlying it in its process, where we look at the balance of risks and how market price compares with those risks. To that end we use fundamental and technical analysis to arrive at our assessment.

Clive Tompkins: So tell me, how has your new Inflation Linked Bond Fund performed?

Tano Pelosi: Well since inception in June to the period September 30, the Fund has turned over 6% which puts it about 20 basis points above its benchmark. But looking forward we would think that we’re well on track to meeting our twelve-month target.

Clive Tompkins: Last question Tano. What happens if the expectations of inflation and yields diminish?

Tano Pelosi: Well the good thing with this type of Fund is that it can perform reasonably well across different types of economic scenarios, including falling yields and falling inflation expectations, which is what we’ve been seeing more recently. But generally speaking, we would expect falling yields to be coinciding with falling inflation as well.

Clive Tompkins: Tano Pelosi thanks for the introduction.

Tano Pelosi: It’s a pleasure Clive.