M&G Credit Income 27 September 2022

M&G Credit Income (MGCI) generates an income linked to interest rates by investing across public and private fixed income markets, including into areas it is hard for mass market investors to access elsewhere. It has two key advantages over the typical strategic bond fund, to which it can be thought of as an alternative. The first is that most of its income (85% of the portfolio as of the end of August) is generated from floating rate assets, and therefore rises as central banks raise interest rates. The second is that it uses the investment trust structure to provide liquidity (via tradeable shares) to a predominantly illiquid underlying Portfolio, which has been constructed using M&G’s broad expertise across institutional and private fixed income markets. This allows MGCI to invest in private assets that have strong credit quality characteristics but which typically offer higher yields than those available in the public investment grade markets.

MGCI targets a Dividend of SONIA plus 4%. Dividends are paid quarterly with historically a larger payment for the last quarter of the financial year (which ends in December). As a result, the steady increase in SONIA we have seen this year means the historic yield may be underestimating the income investors will receive – especially if rates continue to increase. Floating rate investments also contribute to the very low duration on the portfolio, which was 1.5 years at the end of August, meaning that MGCI has minimal price exposure to rising interest rates compared to conventional bond funds.

The trust is managed by Adam English, who draws on the investment-specific work of almost 300 professionals, including many specialist teams focussed on esoteric asset classes. Adam aims for an average investment grade quality portfolio with a substantially higher yield than investment grade corporate bonds – often in line with that available on high yield bonds, although spreads have widened considerably in that market this year.

MGCI looks tailor made for the current economic environment in which a rate hiking cycle is underway and high yield credit looks risky due to the potential for recession. The floating rate exposure means the income available for distribution should be rising while prices in the Portfolio should have limited negative impact from the rate hikes. MGCI does have credit risk, which means if spreads widen there will be some negative impact to the NAV, but Adam’s cautious approach to Management and the high average credit rating in the portfolio should mean this impact is limited.

Over the course of 2022, SONIA has increased from 0.19% to 1.69%. With two dividends remaining to be paid for this year, this means there is the potential for a substantially higher payout than might have been expected at the start of the year. In fact, on an annualised basis the target payout of SONIA plus 4% equates to almost 6%. This compares favourably to most of the alternative income options in the investment trust space. MGCI offers this income from a well-diversified portfolio by sector, geography and issuer, plus average investment grade credit quality and low interest rate sensitivity.