Invesco Enhanced Income (IPE) has announced its annual results for the year ended 30 September 2020, during which the board has prioritised revenue generation through investment in relatively high-yielding and considered debt positions, reflecting its view that In the current economic and market environment, shareholders place great value on IPE’s consistent dividend stream. During the period, IPE’s share price total return was a negative 6.0%. The dividend was maintained at 5.00p per share, whilst the share price fell from 75.20p at the start of the year to 65.70p at the year end, a decrease of 12.6%. The NAV total return was +4.6% for the year and the NAV per share after distributions fell by 2.7% to 72.21p.
Annual dividend maintained at 5p per share using revenue reserves
IPE’s chairman, Kate Bolsover, comments that, while market yields remain at historically low levels, IPE’s portfolio managers have still generated a net revenue return of 4.54p per share, during a period when many companies have been forced to suspend dividends. IPE’s Board has maintained the 5.00p annual dividend for the year and a fourth interim dividend of 1.25p per share was declared on 22 September 2020.
The shortfall of net revenue earned versus dividend paid was 0.46p per share, which has been funded from revenue reserves which the Company has accumulated over a number of years. IPE’s board says that the medium term effects of Covid-19 will likely bring a prolonged period of very low interest rates and, with that in mind, the Board will be reviewing whether the policy is sustainable, balancing the need for current income against the requirement to preserve investors’ capital to earn that income in coming years.
Portfolio Manager’s comments on market background
“The twelve months to the 30 September 2020 have been an extraordinary period both for society and financial markets. Both have been dominated by Covid-19.
High yield bond markets ended 2019 with their highest annual return since 2012. They then sold-off significantly during February and March 2020, as economies were shuttered in response to Covid-19. However, from late March financial markets have rebounded with European high yield delivering a sterling hedged total return in Q2 2020 of 11.35% – its best quarterly return since 2012. The catalyst for the change in sentiment was the extraordinary monetary and fiscal policy response to the virus from central banks and governments.
These measures included the US Federal Reserve directly purchasing corporate bonds. Unlike other central bank asset purchase schemes, the eligible securities for the US programme included bonds downgraded to high yield since the onset of the pandemic. The European Central Bank also extended its quantitative easing programme. For the first time European governments also agreed to a mutualisation of debt through a €750bn joint recovery fund. The fund includes €390bn of loans and €350bn of debt.
The rally continued until the end of August 2020. Then as autumn began, a resurgence of Covid-19 cases in Europe, as well as rising US political uncertainty, led to some consolidation in the high yield bond market.
Nonetheless, demand for high yield has remained very strong in the six months since March 2020. In response to this demand for yield, corporate bond issuance levels have soared as issuers have sought to build up cash surpluses and repair their balance sheets.
To put the move in credit spreads into some context, in March, at the height of concerns over Covid-19, European currency high yield credit spreads had widened to 854bps. This was their widest level since the sovereign debt crisis in 2012. By 30 September 2020, credit spreads had fallen back to a level of 485bps. It was a similar story in the US high yield market. There, spreads widened from 360bps at the start of 2020 to 1087bps in late March. They then fell back to 541bps by 30 September 2020.”
Portfolio Manager’s comments on portfolio strategy
“The Company entered the Covid-19 crisis on a relatively strong footing. The portfolio was cautiously positioned by the end of 2019, with increased levels of cash and reduced levels of leverage. This was a natural response to yields having fallen so much and our sober view on valuations.
The NAV of the Company ended September 2020 at 72.21p from 74.18p at 30 September 2019. In a period in which many companies have been forced to suspend dividend payments, the Company paid a total dividend of 5p over the period.
In March, high yield bonds repriced to reflect the severe economic shock that Covid-19 is inflicting. A lack of market liquidity exacerbated price moves and created some very attractive opportunities that we sought to exploit across both financial and non-financial issuers. To further capitalise on the investment opportunities available leverage was increased to 29% by the end of April 2020.
We were able to purchase bonds from good quality companies that had dramatically fallen in price, in some cases by over 20 or even 30 points. For example, the Company purchased bonds from Dutch cable operator, Ziggo, that had fallen 25 points below their February issue price.
As well as opportunities within the high yield market, we were able to add some higher yielding investment grade names to the portfolio as issuance re-started in that market. For example, BMW came to the market in April with a 5-year bond offering a coupon of 3.9%. This is more than some high yield issuers were paying to raise capital at the start of the year. Another investment grade name we added was Dell Technologies, which was offering 10-year and 7-year bonds with coupons of 6.2% and 6.1% respectively.
In the high yield market itself, bonds were added across many sectors and included new issues such as Ford. The US car manufacturer was downgraded by the rating agencies as a result of the disruption to production and sales due to Covid-19. It subsequently came to the market to shore up its balance sheet offering bonds with coupons of 8.5% and 9.625%, which we viewed as compelling.
Following purchases made during this period of market weakness, at a sector level the portfolio’s largest exposure remains financials (both subordinated bank and subordinated insurance bonds). As at 30 September 2020, 29% of the portfolio is invested in this area of the market. Elsewhere, the portfolio’s largest allocations are to telecoms, autos and food companies. We hope that shareholders are pleased with the Company’s NAV performance through such turbulent markets.”
Portfolio Manager’s comments on outlook
“Markets have rallied significantly from the lows of March 2020. Whilst this year’s volatility provided a fantastic opportunity to add future income to the portfolio, yields in the high yield market are once again heading lower, driven by the prospect of a prolonged period of low interest rates. Although we will continue to seek out attractive income opportunities, such an environment does create challenges for future income. Furthermore, there are undoubtedly difficult times ahead for many high yield companies and default rates are likely to increase. As we seek out appropriately priced income opportunities, we will continue to apply a thorough and comprehensive analysis of each issuer and we will maintain a diversified portfolio. We believe this approach has served shareholders well during 2020.”