Zero sum

The gains made so far this year by most wealth management portfolios mean the rotation game isn’t yet in full swing among DFMs. As it stands, the market shifts seen since the start of September haven’t convinced allocators that a fundamental rethink is required.

But for those starting to look at how they might freshen up portfolios in 2020, peer group analysis shows there’s plenty of room for manoeuvre for DFMs looking to stand out from the crowd.

We’ve written in the past about the handful of discretionaries who have opted to zero weight a given equity region within their balanced portfolios. As the chart below shows, that group remains very much the minority.

The US, unsurprisingly, has remained too good to ignore for the vast majority of allocators. And even unloved regions have tended to retain their place in most portfolios.

Until recently, it was Europe and Japan that had borne the brunt of wealth managers’ unhappiness this year. But those cutting back weightings have typically maintained small positions rather than selling out entirely. Of the 50 DFM offerings we analysed to produce the above data, just five are holding nothing in either Europe or Japan.

When it comes to emerging markets, the increased aversion is partly a factor of some discretionaries viewing GEM and Asia ex-Japan funds as two distinct categories. In practice, that means many have opted to go with one or the other at a time when the asset class has failed to roar as hoped.

However, as the chart implies, a majority do still tend to allocate to all the main equity regions in some shape or form. Cutting back on positions tends to be a tactical move rather than a long-term allocation decision. The one exception, as ever, is global or specialist equity funds. These weightings aren’t included in the chart, but one in three still shuns these areas entirely. That proportion has come down over the past year, but it’s still well in excess of all other regions. 

Tables turned

Regional weightings have had a defining influence on portfolio performance over the past half-decade - in no small part due to the excess returns seen in the US and the underwhelming performance of EMs for much of that time.

The big decisions for next year don’t simply relate to how this balance plays out, however. The style rotation seen in recent weeks has raised questions of a different kind for DFMs, because many of their favourite funds are now underperforming.

This is understandable, to a degree: given the market behaviour seen over the past decade, a sizeable portion of discretionaries’ preferred funds can be found at the ‘quality growth’ end of the spectrum. That’s particularly the case when it comes to major regions like the US and UK.

But drawing together the allocation decisions detailed above with fund selections in other regions does emphasise a different dynamic. 

At the moment, the countries and continents that form a smaller part of a typical portfolio tend to be treated differently by DFMs. Momentum plays are less popular in these areas - partly because some of the markets in question have shown little in the way of momentum so far this year. 

So while the most popular UK and US fund selections have underperformed peers since the start of September, top picks in areas like Europe, Asia and Emerging Markets have started to pick up.

In the next few weeks we’ll be taking a closer look at these favourite funds - as well as how the consensus has shifted over the past year - and examining whether their performance has put them at the forefront of DFMs’ minds for 2020.

Worldly worries

The slowdown in global dividend growth has continued in the third quarter - though forecasters at Janus Henderson can at least be thankful that this decrease is occurring exactly as they predicted. That points to a degree of stability in payments, even if payouts aren’t rising as quickly as they once did.

The fund firm still expects total payouts this year to rise 3.9 per cent, or 5.4 per cent in underlying terms. Those buying the market would have been happy with that at the start of 2019. A bigger issue for UK investors is the recent strength in the pound: that means a sharp reversal for the tailwind that weaker sterling has provided to investments denominated in dollars and other currencies.

Will the rally continue into 2020? Current election polling and the state of play on Brexit suggests it might, at least in the short term. For all the travails currently being endured by UK income funds, slowing growth rates, coupled with a reversal of the trends of recent years, could mean those seeking income overseas find life similarly difficult in the coming months.