Home biases

Despite some wealth managers’ understandable reticence to take a firm stance on UK equities, the DFM sector isn’t immune to accusations of home bias. In the main, UK stocks still account for the single largest share of discretionaries’ equity allocations.

That proportion has fallen in recent years as the outlook for UK shares grows more clouded - and as the US market continues to power global equity returns. All this is widely acknowledged. But wealth managers’ in-built biases are perhaps even more apparent in a different asset class: fixed income.

The Investment Association’s annual survey of the asset management industry, published this morning, shows how fund firms’ own allocations have shifted year on year. When it comes to equities, amalgamating both institutional and retail allocations paints a familiar picture. UK weightings have fallen over the past decade, but they continue to account for 30 per cent of the average equity allocation.

Discretionaries won’t find that too unusual. But the study also indicates UK fixed income weightings have taken another leg down. The average sterling corporate bond allocation dropped another two percentage points in 2018, down to 18 per cent of total fixed income positions. That’s a steep fall from the 26 per cent reported just three years ago.

The shift, which the IA notes accelerated after 2016’s EU referendum, has largely been in favour of overseas bonds of various stripes. This, however, is one area where DFMs differ from the wider market. Our own asset allocation database shows no evidence that DFMs are moving away from the asset class - far from it. UK corporate bond funds still account for around 30 per cent of total fixed income positions.

Wealth firms turning to strategic bond funds will be conscious that UK investment grade debt accounts for a lower proportion of these portfolios - but many are using strat bonds as a complement, rather than an alternative, to their domestic corporate bond positions. For better or for worse, a fixed income home bias is still apparent across the market.

Small victories

The rubicon has been crossed in the US. For the first time, passive products now account for more assets under management than their active equivalents - when it comes to equities, at least.

The milestone, reached last month, coincided with another high-profile critic of passive investing breaking ranks and making headlines. Michael Burry, whose previous adventures were catalogued in The Big Short, has claimed trackers and ETFs are in a “bubble”, and that their rise has led to a long tail of overlooked opportunities.

Mr Burry’s bubble worries relate in part to the issue of overcrowding: illiquidity issues may rise to the fore in the event that holders seek to exit all at once.

Others are less convinced. SocGen’s ETF Research team believe there are pockets of potential concern, including non-market cap indices like the Nikkei, and - paradoxically - asset classes where there’s more liquidity in the ETF than in the underlying assets, like gold and US small caps. But they don’t think risks are that high overall.

SocGen is more interested in a different side of the liquidity equation: those stocks that are too small and/or too illiquid to be bought by trackers in the first place. It thinks valuations in these areas are relatively depressed, on the whole.

If that is the case, wealth managers who are themselves prone to overlooking small caps might want to look again at the asset class - particularly if they’re nimble enough to take meaningful exposure without jeopardising their own ability to buy and sell these companies.

From West to East

Expectations are high for today’s European Central Bank policy meeting. So high, in fact, that many are forecasting the euro might move higher, not lower, in the aftermath. Any indication that the central bank has not gone far enough may well be met with a “brutal” response.

Ten years after the financial crisis, we’re still at the stage where even a wide-ranging package of monetary stimulus measures might not be enough to sate investors’ demands for looser policy. 

In Europe, that’s partly because fiscal stimulus is still in short supply. Whatever happens at today’s ECB meeting, the growing attention being paid to even the slightest inkling of a shift in Germany’s approach to fiscal policy is arguably a sign of things to come. Few would confidently assert that Germany is ready to turn on its own taps. But as Mario Draghi steps down, the market-moving events - good or bad - might increasingly come from Berlin, not Frankfurt.