Cash in hand

It’s logical that a time of greater caution tends to increase the attraction of cash as an asset class. But equity fund managers have an incentive not to go down this route - many would say their job's to remain invested and leave the asset allocation decisions to others.

Managers looked happy enough with this implicit deal even as market volatility surged at the end of 2018. Heading into the final weeks of last year, the average cash holding was 3.1 per cent for UK equity funds, 2.6 per cent for European, 2.3 per cent for US and 1.6 per cent for Japan, according to Morningstar data.

And you’d imagine DFMs - for whom asset allocation is their bread and butter, and who often have sizeable cash weightings themselves - would be even more keen to ensure underlying managers focus on picking stocks. But as the chart below shows, that’s often not the case.

Of the six equity regions identified, it’s only Japan where the ten most popular portfolios among discretionaries (as assessed by our MPS tracker) have a lower average cash weighting than the peer group as a whole.

In some cases, the figures are skewed slightly by elevated cash holdings in one or two popular funds. In Asia Pacific, for instance, Stewart Investors Asia Pacific Leaders’ 15.4 per cent position does single-handledly move the average a few notches higher.

But elsewhere the effect is too consistent to be written off entirely. As the chart emphasises, nowhere is this more obvious than in the UK. Most of the popular UK equity funds are holding material amounts in cash at the moment - portfolios run by Liontrust, Man GLG, Jupiter and Polar Capital all have weightings in excess of 7 per cent. Even Nick Train’s zero cash balance isn’t enough to bring the average down towards the sector’s own.

Ultimately, the trend is perhaps a factor of wealth firms liking managers with the courage of their convictions. If those convictions currently extend to holding plenty in cash, that’s an unfortunate downside - but not enough on its own to prompt a reallocation elsewhere.

A mandate for change

The above said, one way for DFMs to avoid doubling up on cash exposures is to seek more control over what underlying managers do. And taking back control, as it were, is exactly what more and more fund selectors have been doing of late, courtesy of a rise in the use of segregated mandates.

In the wealth management world, the most obvious example is Brewin Dolphin, for whom mandates now form a large part of model portfolios. But there’s another less-heralded shift in this direction to which it’s worth paying attention.

Hargreaves Lansdown attracted plenty of interest last week for its buy-list rejig. These days, however, its multi-manager funds command just as much flow - and they’re now starting to shift to sub-advised mandates. 

As the platform starts to move money away from the relatively transparent world of open-ended funds in favour of these private mandates, the former look like they’re shedding assets. Hence the apparent £300m slump in Threadneedle UK Equity Alpha Income’s AUM at the end of last year, and what broker Numis flagged this morning as a £500m shift out of the Jupiter Income unit trust.

Those two are the only confirmed changes, but those doing their due diligence will note that Hargreaves runs £9bn across its multi-manager range in total, meaning there could be plenty more switches of this size to come.

And we’re likely to see more of these moves to mandates as wealth firms continue to grow in size. The benefits are obvious - the ability to negotiate better deals, and eliminate the kind of cash drag described above by asking managers to fully invest. The agreements also encourage enduring relationships with the providers, though some DFMs might think that a hindrance as much as a help.

From an industry-wide perspective, however, it does make it that bit harder to work out what’s happening in terms of asset flows. Chalk up one more item on fund buyers’ to-do lists.

German angst

On a potentially momentous day for the future of the UK (though there will inevitably be many more of those to come over the next few weeks), consideration should also be given to Europe’s extant economic powerhouse.

Figures released this morning confirm the direction of travel taken of late by Germany: economic growth slowed to its lowest rate in five years in 2018. 

What's more, a slump in Chinese demand means export growth is unlikely to do the heavy lifting for Berlin this time around. With more flexible fiscal policy as unpalatable as ever, it’s low unemployment and robust domestic demand that will have to fill in the gaps where possible. 

That latter part will sound pretty familiar to observers of the UK economy. But with both countries facing an uncertain 2019, it’s not all doom and gloom for fund selectors.

Plenty has been made of the UK equity discount, but the FTSE 100 and All-Share have comfortably outperformed their German equivalents over the past 12 months - in sterling and local currency terms - as German investors priced in the current slowdown. A bad Brexit outcome might bring more pain, but the likelihood is at least one of these markets is creating plenty of long-term opportunities.