Performance problems?

An across-the-board rise in asset prices this year means the average portfolio's performance chart will be looking pretty good at the moment. But DFMs, in particular, will be aware of the need to show they’re giving clients something more than simple participation in a rising market.

Our previous research has shown that discretionaries' model portfolio fund holdings tended to outperform in both 2017 and 2018. With DFMs now feeling their way into the second half of the year, it’s time to see how they fared in the first six months of 2019.

To gauge this, we’ve looked at how many of discretionaries’ favourite strategies outperformed benchmark indices in the first half of the year, and compared that with the wider funds universe. The first set of results, spanning a range of different sectors, is below:

As the chart shows, DFMs’ top picks did a better job than the average fund of beating indices in the US and Europe. That’s likely to work out well for portfolios' relative returns, given these two markets have been the standout performers of the year so far. 

There’s room for improvement elsewhere, however. Half of DFMs’ top UK picks beat the wider market, but that means they did less well, as a group, than the average fund in the IA UK All Companies sector. In the bond space, the rising markets of early 2019 tended to leave active corporate bond funds trailing in their wake - and DFM picks are doing even worse.

The most notable difference comes in Asia: half of DFMs' top 10 come out ahead of benchmark, but the typical fund in the sector had a much easier job of it. Overall, there's plenty of room for improvement if discretionaries are to point to a performance edge over other fund selectors. We'll take a look at how they fared in other asset classes early next week.

Steering clear

DFMs’ struggling Asian equity picks might explain why some have started to cool on the region again, after a six-month period in which all things emerging markets were touted as the place to be. EM indices failed to match peers amid the renewed rally seen this year - and Asian fund favourites appear to have worsened those relative return issues.

The performance of this subset of the asset class is particularly important for wealth managers, because Asian equities are increasingly their preferred way of accessing EM as a whole. For now, the decision to take a more nuanced approach to developing markets is overriding worries over trade-war tensions.

Yet discretionaries won’t necessarily be feeling too hard done by over year-to-date performance. Despite emerging market equities being a consensus play at the start of the year, and many wealth managers having topped up exposures around that time, longer-term data suggests little sign of a rush to get involved.

Of those wealth managers whose portfolios are tracked by our database, some 35 per cent now have less exposure to EM and Asian funds than they did a year ago. Just 23 per cent have more in such strategies, with the remainder opting to keep strategic asset allocations more or less the same.

These headline figures do mask some of those shifts from emerging market equity to dedicated Asian equity plays. But for the moment, there's little sign of structurally higher exposures.

It remains to be seen whether US rate cuts shift that narrative. The suspicion is the other shoe will need to drop first - in the form of a weaker US dollar - if EMs are to rally enough to garner significant wealth manager interest.

Dialling down disclosure

The industry’s shift towards more transparency, more disclosure and more openness with investors is a story that’s not going anywhere soon. 

These changes, whether sparked by regulation or just an acknowledgement that times have moved on, are in train across the distribution chain - though it’s clear some are making quicker progress than others. 

In this light, it’s worth taking a look at latest developments in the active ETF space across the Atlantic. The idea is a product that discloses positions on a quarterly rather than daily basis. That would allow active managers to take advantage of ETFs’ tax-efficient status in the US while also ensuring their strategies aren’t being mimicked by other investors.

Hybrid models of this kind have been around for more than a decade, and thus far have attracted limited interest even in the US - a market increasingly dominated by such structures. This latest innovation faces a tough time in changing that equation. Harder still will be convincing investors, at home or abroad, that they don’t need to constantly know exactly what’s in the product they’re buying.