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FUND TIP: M&G Corporate Bond Fund
January 8, 2009

BENEFITS:

■ Good prospects for capital growth

■ Low risk fund

■ Strong performance in 2008

RISKS:

■ Strict UK mandate

■ Fund remains underweight financials

IC TIP: Buy

This year is not likely to be easy for investors of any sort, but it could prove particularly challenging for those looking to meet a specific income target. On the one hand, cash deposits are being hit by falling interest rates, and the prospect of more to come in 2009; on the other, government bond yields, having had a great run in the early credit crunch months, also collapsed in the course of 2008.

The big hope for many advisers and their clients is that corporate bond funds will step into the breach. There was a widespread sell-off of corporate bonds, both investment grade and higher yielding debt, during 2008, as investors tried to liquidate their holdings. That trend forced bond prices right down and pushed yields dramatically up.

"We can see particular attractions in the investment grade corporate bond space at present," says Justin Oliver, co-manager of Collins Stewart multi-manager funds. "A look at the US, for example, reveals that investment grade corporate debt is yielding over 8 per cent. A bleak economic and investment outlook has already been more than discounted."

Indeed, some commentators point out that in the UK, corporate bond yields are pricing in default levels among companies of up to 25 per cent – "far higher than those seen even during the Great Depression", according to Mark Dampier of Hargreaves Lansdown. Not only are yields impressive, but there is a chance of capital growth in due course, as economic concerns ease and bond prices strengthen, he adds.

The £1.3bn M&G Corporate Bond fund is a relatively traditional product, focusing on a broadly diversified portfolio primarily of sterling-denominated investment grade bonds, with strictly limited (maximum 5 per cent) exposure to higher risk, high yield bonds. It is designed as a low risk, plain vanilla bond fund, but has performed extremely strongly over the past year, losing just 1.2 per cent over 2008 against the sector average of more than 9 per cent.

This is a reflection of manager Richard Woolnough's capabilities, says Justin Oliver at Collins Stewart. "He has read the economic situation fantastically well and has benefited from his aversion to financial issues," adds Mr Oliver. "While selective purchases in this area were made towards the end of 2008, the fund remains underweight financials, and has instead focused on exceptionally attractive industrials which are offering yields at unprecedented levels."

Mr Woolnough has been at the helm since January 2004, and is establishing a strong reputation for himself. At IFA Bestinvest, analyst Robert Harley highlights the M&G manager's "track record of top quartile peer group returns at M&G and at his previous employer, Old Mutual". In December, Bestinvest increased the M&G fund to a three-star rating on the back of Mr Woolnough's success in protecting investors' capital through the credit crunch.

However, the Corporate Bond fund's strict UK mandate and restrictions in regard to high yield holdings gives it less flexibility than its sister fund, the Strategic Corporate Bond fund, to capitalise on exceptionally high yields at the lower grade end. It is yielding 3.9 per cent, compared with the Strategic fund's yield of around 5.3 per cent. That said, with other sources of income offering such thin yields, the M&G corporate bond fund is an attractive home for your cash. Buy.

Key fund data: M&G Corporate Bond fund X GBP Inc

PRICE:£0.28SHARPE RATIOneg
SIZE OF FUND:£1.3 bn1 YEAR PERFORMANCE-1.89
No OF HOLDINGS:2873 YEAR PERFORMANCE0.55
SET UP DATE15-Apr-945 YEAR PERFORMANCE14.42
MANAGER START DATEMar-04TOTAL EXPENSE RATIO *1.16%
TURNOVERN/AYIELD5.46
VOLATILITY0.93MINIMUM INVESTMENT£500
TRACKING ERROR0.63MORE DETAILS0800 389 8600

TOP TEN HOLDINGS

Holding% of fund
Network Rail2.4
France Telecom2.3
Land Securities2.1
E.On2
British Telecom1.8
HSBC1.8
Annington1.7
Vodfone1.5
BG Energy1.4
GlaxoSmithKline1.4

CREDIT BREAKDOWN

AAA10.50%
AA15.90%
A29.60%
BBB24.80%
BB2.50%
B1.00%
CCC0.20%
Not rated6.90%
Gilts and cash8.70%

Source: FT.com, M&G, *Morningstar