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A North American breakdown
The US has led equity markets higher again in 2019, but several years of plenty mean many allocators now have a sense of trepidation. That’s not just down to valuations: Donald Trump’s trade spats and looming regulatory issues for the big tech names have put an even greater focus on exactly which parts of the market investors are buying.
And so to an examination of DFMs’ top active US equity fund picks. We’ve broken down their sector allocations – using Morningstar categories for consistency – and picked out the five most prominent areas:
As the chart shows, most are still heavily exposed to the sector that dragged the broader market both higher and lower last year. Four of the names in our sample have at least a 30 per cent weighting to tech – notably it's not Baillie Gifford American that's out in front, but Morgan Stanley US Advantage with a 42 per cent allocation. Just two offerings, from Miton and Dodge & Cox, have less than 20 per cent.
Portfolios still have skin in the game when it comes to some of the more traditional sectors. The average name among the top picks has around 15 per cent in financial services, with similar amounts in healthcare and consumer cyclicals. Industrials are also favoured, albeit less widely.
Of the sectors shown here, five of the funds listed above back tech as their biggest sector play. For four it’s financial services, with just one – Miton US Opportunities – putting the most weight behind industrials.
Give or take some variations, DFMs will struggle to avoid either a heavy tech bias or funds that are positioned in favour of a cyclical upswing. That means diversification elsewhere, or seeking out different US strategies, is becoming more important than ever.
Alarm bells ring
If the outlook’s finely balanced for US equity funds, there’s a similar degree of uncertainty surrounding emerging market strategies at the moment. Caught between trade war tensions and the prospect of easier monetary policy, the consensus bet of early 2019 has rapidly returned to being a divisive call for many investors.
EM equities’ slightly underwhelming performance so far this year hasn’t helped. Discretionaries, as we know, increasingly tend to look to dedicated Asia Pacific portfolios for their EM exposure. That has, if anything, hindered them even further: the average Asia fund has underperformed its emerging markets equivalent in 2019.
Many will think this is nothing that veteran investors haven’t seen before. China might be wrestling with the relatively new problem of hefty tariffs on its exports, but from a stock market perspective this is far from the first time that Asia Pacific has struggled. Aside from a 2017 rally, and a cursory uptick in performance in 2014, EM and Asian indices have lagged other regions every year since 2011.
In that context, it’s a notable event when veteran Asian managers start to hunker down. That is what’s happening at Schroders, where Matthew Dobbs has increased the cash weighting in his Asia Pacific investment trust to its highest level for at least 10 years, according to Stifel.
This only equates to a position of just over 5 per cent - but long-time followers of the manager will know that his trust tends to favour a few percentage points of net gearing rather than holding cash. Filings indicate this is the first time the trust has ended a reporting period with any kind of net cash position since 2014.
As Stifel reports, Mr Dobbs acknowledges that Asian stocks look relatively cheap, but worries that trade disruption “has the capacity to lead markets substantially lower, particularly as prospects for a reversal in negative earnings revisions recede”. As warning signs from DFM favourites go, this is up there with the more serious.
As the race to get businesses fit for purpose continues, few in the wealth management industry would disagree that firms must embrace innovation and new technologies in order to survive.
From an investment standpoint, changes aren’t always so radical. One of the more notable trends of recent years has seen firms embrace a stockbroking habit of old: buying direct equities instead of funds, particularly in developed markets. The attractions are obvious - more control over the content of clients’ portfolios, and lower costs, too.
Of late, however, this shift seems to have stopped. After a few years in which numerous wealth managers moved away from fund buying, there’s been little sign over the past 12 months that more are following suit. It’s too soon to call a peak in what was a burgeoning trend, but plenty of discretionaries seem content with - or constrained by - fund structures for traditional assets.
Equally, there’s no suggestion that the direct-equity DFMs will be beating a retreat any time soon. And their practices might be having a bigger impact on overall asset allocations than first thought. We’ll be taking a closer look at the implications of DFMs going direct in the coming weeks.