Keep your balance

To use the parlance of the times: are model portfolios sparking joy for investors? After the events of the past few months, the jury’s still out at the moment. But extend the Marie Kondo mindset a little further, and it’s clear that her ‘decluttering’ principle is finding favour with wealth managers. Smaller buy lists and tougher markets have seen to that.

It’s easiest to put this philosophy into practice at the extremes of the risk spectrum. We’ve already looked at the number of holdings found in the typical Balanced portfolio - but this tends to fall when it comes to Defensive or Aggressive models.

To illustrate that, the chart below compares a selection of portfolios rated 3 or 7 on the Dynamic Planner scale with their firms’ moderate equivalents.

The implication is that simpler goals mean fewer funds. Defensive portfolios are making do with one or two equity portfolios and sizeable chunks in a small number of fixed income and alternative offerings. The inverse applies to Aggressive offerings: here, DFMs are simply moving into higher-octane assets and ditching the ballast.

But turn this around for a moment and the limits of the decluttering process become clear. Defensive and Aggressive models have around 18 holdings on average, though there’s plenty of variance from this mean. For Balanced portfolios, the typical number rises to 24-25.

That’s because need for diversification is more important than ever for the average investor. And this isn’t necessarily “diworsification”, to use that mangled term. Many asset classes have behaved unusually in recent times, and in any case, correlations are never static.

DFMs are having to work harder as a result, blending different styles and strategies, and testing their theories in a live environment. It’s a hard ask, and isn’t the kind of thing that will leave clients feeling joyful. But a quiet satisfaction might just prove achievement enough in these markets.

Clear the air

The Investment Association has decluttering of a different kind on its mind: yesterday it released guidance on how fund firms can communicate more clearly with savers and investors. 

Its work has relevance for wealth managers, too. The IA’s advice is based on consumer testing done with 1,000 investors, 60 per cent of whom use an adviser, as well as face-to-face discussions with smaller groups.

And the findings are a reminder that plenty of common industry phrases do little more than muddy the waters for savers. Even references to short, medium and long-term time horizons meant very different things to different people - the IA recommends being specific instead (on average, the three timeframes were construed as meaning three, seven and 13 years respectively).

There’s never going to be a perfect match: at some point, DFMs will probably have to use more complicated terms to get their point across. But the research suggests that jargon has infected even basic explanations. The phrase that investors understood the least was absolute return. The next worst was passive management. 

That may pose a problem for wealth firms, at a time when FCA is already concerned about confusing MPS labelling. Because both alternatives and indexing are growing areas of interest for wealth managers, and many are launching dedicated absolute return or index-only models.

True, the regulator is hardly likely to ban use of the word 'passive' (though it too is sceptical of the meaning of AR). But the conclusion is allocators should think more carefully about how to explain their push into less familiar parts of the investment world.

Tracking trial

The final frontier for passive funds just moved a little closer: Standard Life Aberdeen is launching a Ucits hedge fund index tracker aiming to replicate 140 different strategies in one product.

As this implies, it's not just discretionaries seeking to refine their alternatives exposure at the moment. But there are issues to be resolved before trackers can make inroads into this asset class. One question that spring to mind: what effect does combining multiple hedge funds have on their correlations with other assets? Another, as the FT article points out, is how accurately the tracking process will work. 

Get those aspects right and the attraction will be obvious, given annual charges stand at 0.3 per cent. That’s effectively an institutional fee; the minimum investment of $5m puts it out of reach of most wholesale players. But it is another sign that there’s now no part of the market that can’t be indexed - in theory, at least.