Asset AllocatorMar 26 2019

How the Big Four dominate UK equity fund selection; Allocators spy another curveball

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Welcome to Asset Allocator, FT Specialist's newsletter for wealth managers, fund selectors and DFMs. We know you're bombarded with information, so each day we'll be sifting through the mass to bring you what you need to know, backed up by exclusive data and research. 

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The Big Four

In previous discussions of buy-list concentration, we've highlighted how DFMs' UK equity fund picks are split into two categories: the 10 most popular funds feature heavily, but wealth managers are also happy to use a long tail of other names.

But this divide underplays just how concentrated domestic equity MPS selections truly are. For those who haven't gone down the direct investing or passive routes, a core group of just four funds dominates.

As the chart below shows, the average Balanced model's weighting to Lindsell Train UK Equity, Liontrust Special Situations, Man GLG Undervalued Assets and Investec UK Alpha is pretty sizeable - and in many cases leaves little room for differentiation.

We should acknowledge the gap on the left-hand side of the chart: our sample did include several firms that have no exposure whatsoever to these four names - not all models are following the same pattern. 

But it's indisputable that weightings elsewhere are pretty high. Three firms have their entire UK equity exposure tied up in some or all of the top four, while plenty have at least a 40 per cent stake.

At a time of uncertainty for domestic stocks, these funds will feel like easy choices. And the risk-on, risk-off nature of the past few months has perhaps only strengthened the Big Four's grip on DFMs' affections: long-term performance remains strong, and all four have beaten their peer group over the past six months, too.

But given UK equities form such a chunky part of overall allocations, holding more than one of these funds will limit a wealth manager's ability to stand out from the crowd. And as the market cycle matures, differentiation is arguably only going to become more important in future.

Curveballs and yield falls

The idea that yield curve inversion spells economic doom rightly has plenty of sceptics. But disregarding last week's news on this front doesn't mean ignoring the bond market entirely. Even those not convinced of the link between inversion and recession will have been paying attention to the sharp drop in government bond yields we reported yesterday.

That fall has continued over the past 24 hours, benchmark US Treasury yields dropping to a 15-month low below 2.4 per cent. 

This, in turn, has led to some familiar market dynamics reasserting themselves. Value stocks have been hit hardest in the latest uneasiness, while bond proxies are again being snapped up.

But if the bond market - and economic 'surprise' indices - are pointing in one direction, other indicators are rather more mixed.

Corporate earnings, for example. Downwards revisions to expectations have come through thick and fast over the past few months, and falling bond yields aren't usually a sign of better things to come. The stock market has largely ignored this message since the start of 2019. But now, just as things look a little shakier, there are signs that revisions may have bottomed out

The other conundrum for DFMs to ponder is, inevitably, value investing. Recent events suggest wealth managers have been right to stick to their guns rather than shifting wholesale towards value strategies. 

But Wise Investments takes an alternative view, suggesting value's long spell on the sidelines means it's unlikely to be hit that hard in a downturn. It's a familiar argument, but as bond proxy valuations move ever higher, that's not to say it won't have merit this time around. 

Freedom to choose

Details of income drawdown investors' favourite funds since the advent of pension freedoms make for interesting reading, for a couple of reasons.

The top of the list indicates little if any distinction is being made between the accumulation and decumulation phases: Fundsmith Equity and Scottish Mortgage are just as likely to head a conventional list of top-ten D2C fund choices.

But outside this pair, drawdown investors are a little more traditional than the masses - unsurprisingly, given the difference in age profiles. Six of the ten most popular funds, according to AJ Bell, are investment trusts. And most of these choices are of the capital preservation or dividend-producing variety: RIT Capital and City of London chief among them. Murray International and Personal Assets also feature.

DFMs have their own decumulation strategies, of course - and many will consider these trusts to be rather old-fashioned. Our fund selection database shows that just one wealth manager holds any of the four mentioned above. But these strategies' caution, and their ability to pay a natural yield, suggests the retail market may have got this one right.