April was the cruellest month for oil prices this year. During that month, crude prices fell to their lowest level in more than four years after President Donald Trump unveiled his “America first” tariff policy.
The steep reciprocal tariffs induced fears of a sharp slowdown in global growth, casting a shadow over crude demand. Oil prices recovered slightly in the latter part of April after Trump paused the higher tariffs for 90 days. However, prices revisited the April lows in May following an OPEC+ agreement to ramp up output.
Energy credits were hit the hardest by the steep fall in oil prices in April and May, trading as if a severe recession was a certainty, even as credits in other sectors rebounded on a market view that “Taco” Trump would back down from his more extreme pronouncements to avoid recession and market crash. This divergence didn’t make sense to us and helped to inform us that the energy sector was cheap on a relative basis.
Brent Crude
We also believed that crude prices wouldn’t remain severely depressed for a prolonged period, because a long-drawn slump would have made it uneconomical for marginal producers to sustain output, ultimately leading to a recovery in oil prices. This inherent tension between supply and demand is why commodity markets tend to balance themselves out in the medium to long term – with a strong reversion to the mean price tendency that markets tend to overlook at pessimistic and optimistic extremes. These factors encouraged us to take a contrarian and more positive view on our energy exposure.
As with any contrarian view, timing the market turn is difficult, and therefore we ensured the energy names we selected had a solid credit profile, with the resilience to withstand a long period of low oil prices. Some of the names to which we have exposure in the oil exploration and production space include Karoon Energy, Saturn Oil & Gas, Azule Energy, and Talos Energy. All these bonds have rallied strongly from their April lows.
Karoon Energy
Karoon Energy is an Australian-listed company with key producing assets in offshore Brazil and the US Gulf of Mexico. We have exposure to Karoon, given the company’s relatively low leverage, decent equity cushion, adequate liquidity, and expected positive Free Cash Flow (FCF) generation. We believe these positives help to offset the company’s moderate scale, relatively mature asset in Brazil, and near-term risks relating to shareholder returns and M&A.
The company has a clear fiscal policy of keeping net leverage below 1.5x. The company has a relatively low breakeven oil price of high $50s Brent. Given these factors, we hold Karoon’s 2nd lien notes due in 2029.
Saturn Oil & Gas is a Canadian-listed company with onshore assets in Canada (Alberta/Saskatchewan). We own Saturn Oil’s bonds due in 2029, as we consider it a decent credit, supported by reasonable leverage and expected positive FCF generation. The secured nature of the bond and the sizeable mandatory amortisation also provide additional comfort from a credit perspective. Even assuming $60 WTI, we would still expect the company to be able to generate sufficient FCF to make the mandatory amortisation payment and de-lever going forward.
Azule Energy is 50/50 owned by BP/Eni with main assets in Angola. Azule has a solid credit profile supported by its decent scale and relatively low leverage. The company’s ownership by oil majors BP and Eni is a key credit positive. In addition, despite the assets being located in Angola, there are several important mitigants (e.g. all revenues are received and held offshore in USD with limited capital control/conversion risks) for the company’s emerging market risks. Therefore, we own the company’s bonds due in 2030.
Talos Energy is a US-listed company with offshore assets focused on the Gulf of Mexico. Whilst the Gulf of Mexico is exposed to regulatory risks, the company’s credit profile is supported by reasonable leverage, adequate scale and expected positive FCF generation at the current commodity forward curve. The company, founded in 2012, has survived through both the 2016 as well as the 2020 energy downturn, and has managed to increase its production by more than three times over the past decade even while keeping net leverage in check.
Market sentiment towards energy has improved materially from the lows after “Liberation Day”. By combining robust top-down macro risk assessment with bottom-up credit analysis, we gained confidence to take a contrarian position in a moment of market stress. As mentioned, our selection process is predicated on thorough credit analysis and research, paying close attention to our portfolio companies’ liquidity, leverage and free cash flow generation. We also take into account the relative value of the bonds that we hold in comparison to peers. Keeping in view the Jupiter Global High Yield Bond fund’s philosophy of staying "Active, pragmatic and risk-aware”, we aim to deliver alpha by identifying those bonds that we think offer the opportunity for the most compelling risk-adjusted returns relative to the market.
Strategy specific risks
- Share Class Hedging Risk - The share class hedging process can cause the value of investments to fall due to market movements, rebalancing considerations and, in extreme circumstances, default by the counterparty providing the hedging contract.
- Interest Rate Risk - The Strategy can invest in assets whose value is sensitive to changes in interest rates (for example bonds) meaning that the value of these investments may fluctuate significantly with movement in interest rates.e.g. the value of a bond tends to decrease when interest rates rise
- Pricing Risk - Price movements in financial assets mean the value of assets can fall as well as rise, with this risk typically amplified in more volatile market conditions.
- Contingent convertible bonds - The Strategy may invest in contingent convertible bonds. These instruments may experience material losses based on certain trigger events. Specifically these triggers may result in a partial or total loss of value, or the investments may be converted into equity, both of which are likely to entail significant losses.
- Credit Risk - The issuer of a bond or a similar investment within the Strategy may not pay income or repay capital to the Fund when due.
- Derivative risk - the Strategy may use derivatives to reduce costs and/or the overall risk of the Fund (this is also known as Efficient Portfolio Management or "EPM"). Derivatives involve a level of risk, however, for EPM they should not increase the overall riskiness of the Fund.
- Liquidity Risk (general) - During difficult market conditions there may not be enough investors to buy and sell certain investments. This may have an impact on the value of the Strategy.
- Counterparty Default Risk - The risk of losses due to the default of a counterparty on a derivatives contract or a custodian that is safeguarding the Strategy's assets.
- Sub investment grade bonds - The Strategy may invest a significant portion of its assets in securities which are those rated below investment grade by a credit rating agency. They are considered to have a greater risk of loss of capital or failing to meet their income payment obligations than higher rated investment grade bonds.
- Charges from capital - Some or all of the Strategy’s charges are taken from capital. Should there not be sufficient capital growth in the Fund this may cause capital erosion.
The value of active minds: independent thinking
A key feature of Jupiter’s investment approach is that we eschew the adoption of a house view, instead preferring to allow our specialist fund managers to formulate their own opinions on their asset class. As a result, it should be noted that any views expressed – including on matters relating to environmental, social and governance considerations – are those of the author(s), and may differ from views held by other Jupiter investment professionals.
Important information
This document is intended for investment professionals and is not for the use or benefit of other persons. This document is for informational purposes only and is not investment advice. Market and exchange rate movements can cause the value of an investment to fall as well as rise, and investors may get back less than originally invested. The views expressed are those of the individuals mentioned at the time of writing, are not necessarily those of Jupiter as a whole, and may be subject to change. This is particularly true during periods of rapidly changing market circumstances. Every effort is made to ensure the accuracy of the information, but no assurance or warranties are given. Holding examples are for illustrative purposes only and are not a recommendation to buy or sell. Issued in the UK by Jupiter Asset Management Limited (JAM), registered address: The Zig Zag Building, 70 Victoria Street, London, SW1E 6SQ is authorised and regulated by the Financial Conduct Authority. Issued in the EU by Jupiter Asset Management International S.A. (JAMI), registered address: 5, Rue Heienhaff, Senningerberg L-1736, Luxembourg which is authorised and regulated by the Commission de Surveillance du Secteur Financier. No part of this document may be reproduced in any manner without the prior permission of JAM/JAMI/JAM HK.In Hong Kong, investment professionals refer to Professional Investors as defined under the Securities and Futures Ordinance (Cap. 571. of the Laws of Hong Kong) and in Singapore, accredited and institutional investors as defined under section 4A of the Securities and Futures Act 2001.
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