Liontrust GF Sustainable Future European Corporate Bond Fund

• Complex geopolitical dynamics and unforeseen international developments contribute to risk-off sentiment and falling US government bond yields.
• Maintaining overweight duration positions in German and UK government bonds, despite yield rises over the quarter, as we expect both to see greater economic weakness than is priced in.
• Within credit, sector positioning was positive but security selection was negative. With spreads having tightened and corporate fundamentals moderated somewhat, we think future performance will come predominantly from selection.

The Fund returned -0.3%* in euro terms over the quarter, compared with the 0.1% return from the Markit iBoxx Euro Corporates Index comparator benchmark.

Market Commentary

This year has already witnessed a dramatic surge in global policy shifts, driven by complex geopolitical dynamics and unforeseen international developments. The new administration in the US kicked off their policy agenda which has led to a rapid reassessment of global security alliances and fears over the global growth backdrop. Ambiguity surrounding policy has affected both business and consuer confidence, heightening concerns over higher-risk asset classes.The quarter began with a coordinated sell-off in global fixed income markets, a move which started in November after President Trump's election, and partly attributable to firm economic data in the United States, along with expectations of increased inflation resulting from the proposed policy agenda. Volatility rose as the quarter progressed with numerous tariff announcements and proposals. There was a significant outperformance by US treasuries, particularly towards the end of the quarter, as uncertainty over tariffs further drove recessionary fears and a growing risk-off move. The US 10-year yield fell nearly 40 basis points over the period, while concerns over stagflation linger given the tariff uncertainty. The Conference Board’s consumer confidence measure fell to the weakest level since January 2021 in March, while measures of inflation expectations have moved significantly higher amid the tariff backdrop.

Keeping with recent tradition, the UK has followed much of the S moves. Some differentiation arrived via the Spring Statement, however. Chancellor Reeves was able to rebuild fiscal headroom to same level as the October statement’s level, which had been wiped out by rising gilt yields and weaker GDP growth. Savings were achieved by cutting welfare spending, backloading savings on other expenditure, and a reallocation to defence spending which flatters the narrow ‘fiscal rules’ interpretation of the public finances. Markets responded positively to a revised gilt remit for FY 2025-26, coming in just under £300 billion, with a shift in issuance away from longer-dated bonds causing the curve to flatten. Despite this, risks to fiscal policy and its impact on GDP growth remain. The OBR projects 1% growth for 2025 but the longer-term assumptions seem optimistic at best. Productivity rebounding from 0.3% to 1.0% seems unlikely, while no potential tariff increases were included in the base case in spite of White House rhetoric. Full tariff implementation could reduce UK GDP by up to 1% according to the OBR, negating the entire projected current budget surplus for 2029-30 in their own estimations. Given this uncertainty, it is worth noting that the likelihood assigned to the government achieving a current budget surplus by the forecast's end sits at only 54%. The outlook points to further fiscal consolidation being needed in the future, the form of which we will need to wait to see.

The Eurozone also moved in response to the US administration’s policy agenda, particularly with regard to confrontational foreign policy. This includes proposals from European Commission President Ursula von der Leyen for €800 billion on defence spending at the European level. More radically, in Germany, proposals to ease the ‘debt brake’ for defence spending and a new €500billion infrastructure spending plan caught markets by surprise in March. 10-year Bund yields rose by 30 basis points on the day in response, their largest rise since German reunification. The infrastructure spending in particular is likely to have a positive multiplier, increasing growth and jobs but also increasing inflation. Germany has had decades of restrained fiscal policy, and so are in a unique position to be able to implement such measures. The European Central Bank validated the prospect of further stimulus, with the bank’s President Lagarde praising the approach in the last meeting. Otherwise, the bank has progressed as expected. Interest rates were cut twice over the quarter, with a further 60 priced in by the end of the year.

Given the circumstances, investors are looking for insulated assets in which to invest their capital. While tariffs have the potential to temper earnings, many corporates are entering this uncertain period from a solid base, with many having termed out debt while interest rates were low. Corporate bonds have often outperformed in stagflationary environments, which is becoming ever more likely with each geopolitical development.

Fund performance

Duration

We began the year with a duration position of 0.75 years overweight relative to the benchmark, expressed as 0.25 years long through Germany and 0.50 long through the UK. 10-year Bund yields rose over 35 basis points over the quarter, driven by expectations of a much larger issuance to finance new government spending programmes. As a result, performance from duration was impacted. We believe a weaker economy will necessitate further rate cuts to come through, so have kept the German leg of our duration stable over the quarter.

Despite 10-year gilt yields also moving higher, by around 10 basis points, we maintained our overall position there, as we believe similar weakness in the UK economy will feed through and contribute to falling rates faster than the market expects.

Credit Performance

The fund’s credit positioning had a negative impact on performance, with weak stock selection offset slightly by sector positioning. In general, credit spreads in the euro investment grade index have tightened slightly over the quarter and our decision to be slightly overweight credit spread duration has proven positive.

Within our portfolio, we had negative performance from higher-beta sectors such as banks, insurance and real estate. With bund yields rising, rate sensitive issuers have been impacted more. Defensive sectors however, such as utilities, contributed positively to performance.

Trading Activity

Trading activity varied throughout the quarter. Opportunistic issuance and tight valuations made way for geopolitical uncertainty as issuers stepped back from markets. We took advantage of tighter spreads to take risk out of the portfolio, supporting performance towards quarter end.

Given the relatively flat credit curves earlier in the quarter, we took the opportunity to reduce spread duration in Zurich, switching into a shorter maturity bond. Tight valuations also led to us disposing of our holding in GlaxoSmithKline. Pharmaceutical names within healthcare have performed well given the backdrop, offering only a small pickup to government bonds for the risk.

We participated in a new issue from Severn Trent, a UK water and wastewater company. The sector is going through regulatory change due to aging infrastructure and increasing debt, but Severn Trent is the clear sector leader with no additional leverage through a holding company. Its better position and strong management offered a safer way to gain exposure to the sector. We funded the issue by reducing our position in Veolia.

We also participated in a new issue from the Climate Investment Fund, which raises funds in order to provide resources that scale up low carbon technologies and support clean technologies in low and middle-income countries. We funded the position from our gilt allocation, as the name is an opportunity to take sovereign-like risk for an additional yield pickup.

Outlook

We remain reasonably constructive on the outlook for corporate bonds based on attractive all-in yields and the carry from spread currently on offer. We are cognisant of the tightening we have seen over from the wides over the last couple of years, and as such have been taking opportunities to increase credit quality and reduce spread duration. Recent political developments and trade policies have led to a decompression in spreads and have caused volatility in the markets. We think that many of our high-quality corporates have solid fundamentals, and we may take the opportunity to add to credit exposure again on any further repricing, but remain wary of the volatile backdrop.

There has been a moderation in overall credit fundamentals, such as interest cover metrics, as increasing all-in cost of new financing has resulted in an upward trend in blended funding costs and a corresponding reduction in interest cover. Leverage has returned to long run averages, reflecting an increase in debt levels alongside lower EBITDA growth, due to a combination of lower revenue growth and rising costs. However, both of these metrics remain at healthy levels.

We therefore think that additional performance will be generated from credit selection, an area where we have delivered outperformance over recent years. We are exposed to high quality names that on a relative basis offer attractive value and good exposure to the asset class. This is reflected in our overweight positioning to financials through both the banks and insurance sectors, overweight telcos which we view as a high-quality resilient sector. We expect there to be potential for additional capital upside from declining government bond yields and the funds retain their long interest rate position.

Key Features of the Liontrust GF Sustainable Future European Corporate Bond Fund

Notes:  ¹As specified in the PRIIP KID of the fund; ²SRI = Summary Risk Indicator. Please refer to the PRIIP KID for further detail on how this is calculated.

Discrete years' performance (%) to previous quarter-end:

*Source: FE Analytics, as at 31.03.25, A5 share class, in euros, total return (net of fees and income reinvested). Discrete data is not available for 10 full 12-month periods due to the launch date of the portfolio.

KEY RISKS

Past performance does not predict future returns. You may get back less than you originally invested.

We recommend this fund is held long term (minimum period of 5 years). We recommend that you hold this fund as part of a diversified portfolio of investments

• All investments will be expected to conform to our social and environmental criteria.
• Bonds are affected by changes in interest rates and their value and the income they generate can rise or fall as a result;
• The creditworthiness of a bond issuer may also affect that bond's value. Bonds that produce a higher level of income usually also carry greater risk as such bond issuers may have difficulty in paying their debts. The value of a bond would be significantly affected if the issuer either refused to pay or was unable to pay.
• Overseas investments may carry a higher currency risk. They are valued by reference to their local currency which may move up or down when compared to the currency of the Fund.
• The Fund can invest in derivatives. Derivatives are used to protect against currency, credit or interest rate moves or for investment purposes. There is a risk that losses could be made on derivative positions or that the counterparties could fail to complete on transactions.
• The Fund uses derivative instruments that may result in higher cash levels. Cash may be deposited with several credit counterparties (e.g. international banks) or in short dated bonds. A credit risk arises should one or more of these counterparties be unable to return the deposited cash.
• The Fund may encounter liquidity constraints from time to time. Participation rates on advertised volumes could fall reflecting the less liquid nature of the current market conditions.
• Counterparty Risk: any derivative contract, including FX hedging, may be at risk if the counterparty fails.

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