Paul Scott Interview With Paul Hawkins, Corporate Bond Specialist

28th Oct '22 by Paul Scott

33 comments 3171 reads

Paul Scott interviews corporate bond specialist, Paul Hawkins

Recent rises in interest rates, and turbulent equity markets, have meant that some investors are looking at corporate bonds as potential investment ideas. Offering more safety than equity, and a predictable income stream, is there any merit in considering investment in bonds? We explore the various aspects in this interview.

NB. This is absolutely not investment advice. Bonds can be complex, and are best left to the experts, if you don't have relevant expertise.

Paul Hawkins has specialised in corporate bonds, in senior city roles, for most of his career.

Tamzin at PIWorld interviewed Paul in this outstanding video from June 2020, which I suggest you watch first, as my audio interview tries not to overlap too much with this.

Click here for my audio interview on my website. Or, search for "Paul Scott small caps" on podcast platforms.

As an additional service for Stockopedia subscribers, I have typed up a summary (almost a transcript as it turned out!). Please don't copy/paste this onto other websites, many thanks.

Q1. Bonds, what are they, it’s just debt isn’t it?!

A1. Yes, an issuer asks to borrow say £100, and pay you £5 per year interest, and at the end of 5 years, they give you £105 back. (Clarification: redemption = 100. Final coupon 5).

Q2. Who buys bonds - why, and where does the money come from, it’s a massive market I believe.

A2. Yes, £174bn of sterling issuance (excl. Gilts) were issued last year. £1 trillion is size of market, £4 trillion if you include Gilts. The major buyers are household names, e.g. M&G, Legal & General. Pension funds buy Gilts to save for future liabilities (paying pensioners).Also bond investment funds. Also sovereign wealth funds, e.g. Norway. Japense/Korean pension funds, or a fund manager anywhere that likes sterling debt. Diverse world. Institutional, not retail investors.

Q3. How are bonds priced? They’re issued par, or 100. Then the market value can go up or down.

A3. Not everything is priced at par. Benchmark yield is Govt debt yield, then there’s a spread above that for corporate bonds. So investors negotiate what they wish to buy. An example - ASDA was pricing bonds at 4% last year, but now the spread is much wider than that.

So the price moves by 2 elements - the benchmark Govt debt moves all…

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Roger Baron

28th Oct '22

Thanks Paul. Would be interested in SAGA 2026 but ii, Barclays and HL don't seem to offer them. Hopefully I will make more by buying more of the shares!

ACounsell

Another couple of points around Corporate Bonds. Many issues in the bond universe require large minimum purchases, often £50K or even £100K. Clearly this is beyond most retail investors and as a consequence they are probably limited to retail bonds and the smaller number of issues with a typical £1000 minimum. To reduce risk from individual bond holdings you can usually access credit rating data to see where they sit in the bond credit hierarchy. To further reduce risk you can invest in a very broad range of bonds through investment trusts, ETFs and Funds. The downside with this approach is that there is no fixed maturity date so you are more exposed to market movements. This has been particularly damaging in the last year or so as bond prices have collapsed due to a combination of higher interest rates and inflation.

Bouden54

Yes in that instance you would have made a 10% capital return, although bonds will generally revert to par as they come to mature

timarr

The point on funds is well made. I can hold a specific bond through to maturity, and get the terminal value regardless of the volatility (bar default). With a fund I'm exposed to a whole range of other issues, and there's no guarantee that the managers will behave as I'd like, not necessarily holding to maturity and potentially rolling their holdings.

Basically bond funds are not the same as bonds and have different risks.

And, of course, open ended bond funds are a mug's game as you'll have forced redemptions at exactly the wrong time. Investment trusts are a different matter, especially if you can get sufficient margin of error through deep discounts to NAV. But they're still not direct proxies for actual bonds.

Very interesting interview. A real shame that in this country retail investors are effectively frozen out of this market.

Not a fan of bond Funds either which are realistically the only option for many - the main thing I like about bonds is that if I buy, say, a 5y bond on an 8% yield, I know exactly what return I will get in 5 years (unless of course the issuer defaults, which is extremely rare in investment grade bonds).

With bond Funds they will own hundreds of issuers and be cosntanantly switching round positions so you really have no idea what your return will be in 5 years time. Plus the very large fees eating into your return! Of course, the bond manager will say you get the benefit of diversification to protect against individual default risk - that may be true in the riskier junk bond space, but defaults are very rare in investment grade and if worried you could easily buy a basket of bonds so you have only minimal exposure to any individual company.

Would love to see some sort of regulatory change to make corporate bonds accessible to retail investors. After all they are much lower risk than equities so would surely be a good thing.

paulgbrown

Great interview much appreciated. I know the preference shares can go into an ISA as I used to hold them there but sold out when I thought interest rates were going to rise.

Are the corporate bonds as opposed to prefs okay for an ISA. I appreciate in some cases there is a minimum of £50k or £100k.

Paul

GibboP

Thanks. So in the case of SAGA, which is at 65 according to the transcript, if you buy that you are 'guaranteed' 100 when it matures?? Seems too easy. Perhaps this site (not necessarily SCVR) could cover bonds in more depth? Pauli, what do you think?

judywil

I don't understand this comment:

A12. I prefer the terminology “Gross Redemption Yield”. It’s the same thing, it includes the running yield (the coupon), plus any capital gain. If you buy a bond at par, then the yield is just the coupon. If you buy SAGA bonds at 65, then you have the 5.5% coupon (running yield), plus a capital gain of 35 points (when it is repaid, on expiry, in 4 years' time). It would probably be a qualifying corporate bond (QCB) so the capital gain would be tax-free. Your coupon would be taxed though. So the running yield can be very different from the gross redemption yield.

You get 5.5% on a £100 SAGA bond = £5.50 every year. So surely if you buy SAGA at 65, the yield is actually 8.5%? What am I missing here?

willhampson

Hi, you are "guaranteed" 100 - and the capital gain you mention - in so far as there is no default on the bond. The fact that the bond is being priced at 65 suggests some are of the view that a default is likely. I express no view on that.

You're only looking at the coupon - the yield to maturity also includes the capital gain when the bond redeems at 100p (a roughly 53% capital return if its trading at 65p, on top of the coupon payment).

Yes Paul Corporate bonds and corporate bond OEICS can be held in an ISA. as long as you can buy them with your ISA provider

Bouden, fees on ISA funds are usually a lot less than on Equity funds. And they do have the advantage that the manager probably knows a lot more about it than we do.

Yes, good point

OldSchool05

Hi Paul,

Thanks for the interview on this topic. Those of us who regularly follow the SCVR and are equity investors, myself included, spend a lot of time looking at companies and attempting to get reasonable returns on our investments whilst seeking to minimise risk.

As someone who is looking for around 8% return on my incremental investments, it strikes me that if I can find some decent candidate preference share investments in blue chip companies, then I really should think carefully about adding this into the mix of my portfolio.

A couple of candidates spring to mind

AVIVA: https://www.youinvest.co.uk/re...

LLOYDS: https://www.hl.co.uk/shares/sh...

In both cases, if you are prepared to hold and take the yield then it offers a good, and dare i say it - safe return... Plus there may be some upside over a multi year period to capital value, looking at the charts.

I'm struggling to find a full list of preference shares out there. Does anyone know where we can find this?

rpannell

Not corporate bonds, but Gilts can be bought through Barclays. I was buying theT44 index linked gilt through Barclays stockbrokers just before the BOE stepped in. These were giving a tax free yield of RPI inflation plus 2% out to 2044. The price obtained through Barclays was just a tiny percentage away from the mid price and not the large spread quoted on the markets. I'm not expecting to see such a buying opportunity again for many years.

Funderstruck

Paul, thanks for the excellent interview & the effort you put in to write it up.

I too have been looking at Bonds again after many years ,as with low interest rates equities were of much greater interest..

It would certainly be of interest if a separate 'Bond Discussion Group' was to emerge as a result of your efforts.

Fees on bond funds are typically around 0.5% to 0.6% which might not sound much, but when yields were 2-3% (which was the case until recently) it's taking up quite a big chunk. Perhaps not such a problem now with yields a bit higher.

On the other point, yes if you want to invest in something like high yield or distressed debt then you certainly want to go through a fund manager who knows what they're doing. I don't think it's necessary if you're sticking to investment grade bonds - defaults are virtually non existent, and if it did occur it would be some real black swan event that even the fund managers wouldn't see coming. And of course you spread the risk by holding a few positions. I work in the fund management industry and am very dubious if the vanilla bond fund managers add any real value.

As I say the main reason I'd prefer to hold bonds directly is you know exactly what return you will get over a particular time frame. You just don't get this from a bond fund as they are constantly recycling their positions.

Tortoise investor

29th Oct '22

Does the secondary market for bonds still require large minimum purchases? Or could I pick up Saga bonds say at a much smaller amount on the secondary market?

Westway001

Ref the Aviva av.a, does the IRRD stand for irredeemable and if so does it make a difference? HL says the divi yield is 7.51%.

M Wharrier

31st Oct '22

great interview and comments. HL is ok to buy corporate bonds, but you really have to hold to maturity given the wide spreads. I have also found HSBC invest direct good for dealing in gilts at much more sensible spreads.

Paul Scott interview with Paul Hawkins, corporate bond specialist

Paul Scott interviews corporate bond specialist, Paul Hawkins

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Paul Scott

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