Lombard Odier Investment Managers has launched LO Funds BBB/BB Bond – the ‘5Bs Bond Fund’, a unique actively managed fund which will invest across a universe of BBB and BB-rated European corporate bonds.

The fund will be managed against a fundamentally weighted index as distinct from traditional bond benchmarks which tend to give higher weightings to companies and sectors with higher levels of debt. The fund is UCITS III compliant and will be domiciled in Luxembourg.

Stephane Monier, Chief Investment Officer of Fixed Income and Currencies at Lombard Odier Investment Managers said: “The potential of the BBB/BB crossover area has been overlooked. In bond investing the returns foregone by constrained investors, who are compelled to sell when a bond’s rating falls, become available to unconstrained investors, such as the 5Bs fund. We aim to capture this additional return by focusing on the ‘fallen angels’ that have been downgraded to high yield; and ‘rising stars’ who are set to be upgraded to investment grade. This is not a small niche area, the 5Bs universe is three times the size of the high yield universe.”

The 5Bs universe comprises bonds at the lower end of investment grade and at the upper end of high yield. Investing in this area has an attractive risk and return profile. Research shows the 5Bs corporate bond universe historically generated higher returns than investment grade, with a negligible increase in risk. From 2003 to 2010 investment grade European corporate bonds returned an annualised +4.09%, 5Bs returned +5.39% and high yield bonds returned +8.18%. Volatility of investment grade and 5Bs was similar (3.22% and 3.55% respectively) with high yield showing volatility of 9.16%. In terms of risk/return 5Bs led the pack, with a Sharpe Ratio of 1.52, compared to 1.27 for investment grade and 0.89 for high yield. The maximum drawdown experienced over the period was -5.7% for investment grade, -7.96% for 5B and -30.06% for high yield.

The fund is managed by a 5 person team led by Kevin Corrigan, Head of Credit at Lombard Odier Investment Managers.

Corrigan added: “The attractive risk-return profile of the BBB/BB crossover area is likely to be welcomed by clients. Clients today seek higher returns and capital preservation. They face a low yield, high risk environment with scarce visibility on growth. The actively managed 5Bs Fund takes advantage of mis-pricings that occur when the rising stars and fallen angels are crossing over between investment grade and high yield.

“This is the latest of our fundamentally weighted bond fund launches which moves away from the traditional bond index approach that gives a higher weighting to issuers according to the volume of their debt.”