Asset AllocatorApr 25 2019

Divisive times: Managers' newest allocation issues; Fund buyers' mega misfortunes

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Mixed messages 

If, as we discussed yesterday, DFMs are starting to leave more asset allocation calls to fund managers, then it's worth taking a closer look at fund firms' own thinking on this front.

Earlier this year we examined research from Natixis that outlined asset managers' attitudes to risk at the turn of the year. Today we've gone a step further: one quarter deeper into 2019, we’ve conducted our own analysis of their asset allocation decisions.

The chart below summarises the latest allocation views of 15 of the biggest firms operating in the UK market:

The results suggest fund managers are playing it safe in many areas, at least when it comes to their house views. But while some consensus bets are evident, there's perhaps less bunching on display than expected.

It’s no surprise that firms have little faith in European equities at the moment, nor government bonds. That said, a couple are still tactically backing US Treasuries despite the recent rally, even if they dislike sovereign debt in general.

Equally, the EM narrative has lost little steam over recent months. The vast majority of managers are positive on EM equities, with all still maintaining a neutral stance, at worst, on emerging market debt.

But mixed feelings are in evidence when it comes to high-yield bonds - and similarly there's little sign of a consensus nowadays on US equities. High valuations and a rough and tumble Q4 mean that while many are still reluctant to turn away from the world's leading equity market, it's only a minority of fund houses that are still outright positive. 

Missing the mega caps

The evidence suggests that asset managers struggled to protect on the downside at the end of last year. But there may be mitigating circumstances. Craig Baker, CIO at Willis Towers Watson and nowadays in charge of selecting Alliance Trust's underlying managers, notes that 2018 was different - and difficult - in more ways than one.

The nature of the fourth-quarter falls, as much as the slump itself, was a particular issue for fund managers. WTW figures show that the while the MSCI World shed 10.4 per cent last year, the median stock return was materially worse at 14.9 per cent.

The gap between those two figures was twice as big as in 2011, the last time the MSCI World suffered a notable annual drop (down 7.6 per cent), and three times larger than in any other year since. That's because large caps did notably better than the index last year.

The difficulty for fund selectors is that there just aren’t many options available for those looking to take advantage of this trend. Passives are always an answer - though wealth managers currently opting for the likes of mega-cap US equity trackers are few and far between, according to our database - but the pickings are slim for those seeking an active choice.

When considering possible commonalities between Alliance Trust’s eight individual mandates, Mr Baker says “the obvious one is being underweight mega caps, Fangs aside”. The nature of active management means that will be the case for most DFM portfolios, too. 

Mr Baker points to two of his strategies, run by Rajiv Jain at GQG and fellow US outfit Sustainable Growth Advisers, that he says counteract this trend a little. 

But by and large this is always going to be a problem area for fund selectors: most active managers are unlikely to think they can beat the market by buying the most widely-owned stocks. So the solution, if you can call it that, is simply to wait it out and trust that other parts of the market start to reassert themselves.

USA still number one

Another current quirk of the market will be more familiar to fund selectors: despite the scepticism mentioned above, the US has reasserted itself as the driving force behind global equities' rise this year. The S&P 500 has hit new heights despite the MSCI World remaining 13 per cent below its early-2018 peak.

That's reminiscent of last summer, when US shares raced away but global stocks more or less went nowhere. The reasons for that trend are very different this time, however. Last year it was the Fangs that pushed the market higher; tech is outperforming again in 2019, but the real motivating factor this year seems to be the drop in US Treasury yields.

Needless to say, this doesn't bode particularly well for equities. By the same token, fund selectors won't need reminding that the disconnect has persisted for several months now. Earnings season could provide another boost, particularly when expectations are so low.  But sooner or later a reckoning of sorts will have to take place.