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DFMs' long/short favourites gain confidence as Q4 kicks off; Bulls & bears face the music

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Longer nights

As allocators weigh up the balance of risks facing markets, now’s a good time to check in how long/short strategies have positioned themselves for the final quarter of the year.

When we last examined DFMs’ favourite long/short strategies, the majority were hunkering down for the summer: two thirds of our cohort cut back net exposure in Q2, with only one opting for a material move the other way.

The subsequent months, as it happened, proved relatively quiet for markets. By the same token, the main risks that were worrying investors at the start of the third quarter haven’t gone away. So wealth managers could be forgiven for thinking that long/short strategies’ positioning wouldn’t have changed much in the interim. Yet as the chart below shows, that’s not quite the case.

While the vast majority of funds haven’t made significant alterations, there’s once again a clear trend to be observed - and this time, it’s in the opposite direction. Almost two-thirds of the group have upped their net exposure, most notably Polar Capital Absolute Equity.

But this doesn’t tell the whole story: the strategy was among the eight funds that reined in their gross exposures on the quarter. 

So this isn’t a case of outright bullishness. It perhaps speaks to a tendency for funds to dial back exposure ahead of the low-volume summer period, only to put positions back on once managers return to their desks. The brief downturn for momentum plays at the start of September will also have concentrated minds.

Still, some wealth managers are growing cautious. Premier’s multi-asset team sold out of the Polar fund last month, in the belief that more volatile markets will actually do more harm than good to tactical allocators - or, at least, increase the risk that managers will be caught on the wrong side of a rotation. They’re favouring long-term strategies to ride out such storms. That’s an approach that doesn’t necessarily lend itself to the long/short asset class as a whole.

High hopes

All the above duly noted, there are those who are becoming more positive about risk assets’ potential fate for the rest of the year. And signs of optimism aren’t just confined to those buying back into UK assets

The inversion of the US yield curve has ended, for now at least. As the march to the 2020 US presidential election continues, some investors think a thaw, if not an end, to US-China trade tensions is growing more likely. Policy loosening is on the cards in other under-pressure economies. In among everything else, markets continue to grind higher.

To that end, Kestrel Investment Partners’ multi-asset team - acquired by Merian earlier this month - has upped its equity exposure from 40 per cent to 80 per cent in the last quarter alone.  

Inevitably, it’s still easy to make the opposite case. Sentiment may be improving in some quarters, but economic data is still weak. Oil prices have fallen almost 20 per cent since April despite the spike seen last month when a missile took out part of Saudi Arabia’s supply. 

On top of that, the equity rally is based on increasingly narrow foundations. SocGen points out that 70 per cent of MSCI World constituents now have earnings-per-share forecasts at two-year lows or worse.

And even if macro risks were to clear, the outcome could well be tighter monetary policy. Optimistic DFMs will have an increasingly tough time accounting for such factors in the months ahead. 

Lacking Persuasion

One week after its ITV namesake concluded, Sanditon Asset Management has announced it will close its doors, transferring its funds and winding up its investment trust.

The truth is the firm never really made it to primetime: its European strategy, run by Chris Rice, did amass £300m in assets over its five-year lifespan. But its trust and two UK funds have less than £100m between them. The business cycle strategy that the managers pioneered at Cazenove proved unfortunate, given the long-threatened end of the current cycle has still yet to materialise. 

The episode is another cautionary one for those seeking to go it alone. Not for the first time this month, it’s apparent that a reliance on just one type of strategy leaves firms exposed when things go wrong.

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