Morningstar analysts have downgraded global macro fund H2O Allegro to Neutral a week after putting it under review over concerns about its exposure to illiquid, high-risk bonds linked to controversial German entrepreneur Lars Windhorst.
Analyst Mara Dobrescu said concerns over the fund’s risk controls prompted the downgrade of the fund, which was previously rated as Bronze.
The fund was placed under review on June 19 after Dobrescu flagged up concerns over a conflict of interest. H2O’s chief executive Bruno Crastes was named as a board member of Tennor, a holding company run by Lars Windhorst. Shares in Paris-listed Natixis – H2O’s parent company – slumped after the fund was placed under review. Following Morningstar’s announcement, Natixis said Crastes had resigned from Tennor, saying the risk of a possible conflict of interest was “groundless”.
Morningstar’s Dobrescu said the H2O Allegro fund, which has seen millions of euros of outflows this month, needs to regain investors’ trust. The fund, which takes long positions on the U.S. dollar and eurozone debt, has produced stellar annualised returns of 16.5% over the past eight years but this has been achieved at a “higher risk than investors could have expected”.
The majority of the illiquid bonds that analysts had concerns over have now been sold off or marked down. The exposure to these bonds has been cut from 10% of the portfolio to 3.8% as of June 24.
The decision to sell off these bonds will hit short-term performance, Dobrescu said, but will limit their negative impact on the portfolio’s returns in future.
H2O parent company Natixis will start auditing H2O’s processes next month, but “it remains to be seen whether this audit will yield tangible results for investors”.
Negative Process Rating
H2O is a Mayfair-based asset management firm with a range of funds available to European investors. It was set up by French bond investor Bruno Crastes and Vincent Chailley with the help of Natixis, which remains the parent company.
Dobrescu describes H2O Allegro as a “heavily top-down global macro fund”, which expresses H20’s house views through investments in government bonds, currencies and credit “with a very flexible mandate”. Over the past five years, global government bonds and currencies “have been by far the biggest contributors” to the fund’s risk budget and overall performance.
Morningstar give its “process” a negative rating, noting that the fund has repeatedly exceeded its target range for volatility and the “Value at Risk” (VAR) measure of financial risk. Analysts also have doubts about the robustness of the valuation policy that was applied to the fund’s illiquid holdings, prior to the corrective action taken in recent days.
In terms of “people”, one of Morningstar’s key pillars of fund analysis, analysts have expressed concerns over the stewardship of H2O given the forays into illiquid and distressed bonds in recent years, especially given Lars Windhort’s role in selecting these assets.
The fund has €1.2 billion in assets, according to Morningstar data, and has produced a market-beating three year annualised performance of 32%. The fund launched in March 2011 and has been managed since then by H2O co-founder Vincent Chailley and Loic Cadiou. Its top five holdings are a range of Mexican government bonds of varying maturities.
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