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Asset Allocator

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Deceptive diversification for DFMs; A new lease of life for the four bears

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Public property

Dips aren't being bought and knives are falling to the ground ungrabbed. Safe havens, limited in number as they are, are currently the place to be. So it's worth considering whether DFM portfolios are really as diversified as they first look.

The main case in point here is property exposures. Real estate was never a truly uncorrelated asset, and recent fund selection shifts have made its risk-on qualities even more pronounced. 

Wealth firms' move away from open-ended property funds has seen them turn instead to a variety of substitutes: funds of infrastructure investment trusts, like those run by Gravis, Time and Foresight; strategies holding property or infrastructure equities; and those buying a combination of physical and listed holdings, like BMO Property Growth & Income.

The problem is that these offerings don't perform in the same way. Relatively speaking, the first group have done well enough during the sell-off. Real estate shares, on the other hand, can hardly be deemed to be diversifiers - despite holding up a little better than global indices. And the BMO fund has fared poorly of late, too.

At its heart, this is a transparency issue. As we highlighted last week, the average DFM Balanced portfolio has 4.9 per cent in property as part of a wider alternatives exposure. That's in part because the vast majority of discretionaries still classify property equities as alternatives, rather than stocks. As the chart below shows, shifting these weightings to the equity bucket sees the average property position fall to 3.6 per cent.

Adding 1.3 percentage points to risk asset exposures isn't an overly dramatic change. Nonetheless, wealth managers should be clearer about the nature of these assets - particularly given how they tend to perform at times when diversifiers are truly needed.

The four bears

One corner of the fund selection world that's starting to shine again is that occupied by perennially bearish investors. Investment trusts run by Sebastian Lyon, Jonathan Ruffer, Peter Spiller and the team at RIT Capital are still held by some discretionaries for this very reason.

The managers' multi-asset approach is pretty similar to DFMs' own, but their excess of caution means few wealth firms are concerned that they are simply replicating their own allocations.

In the event, most of these strategies have done exactly what holders would hope. Between February 1 and the end of last week, each shed just 1 per cent. The big exception is RIT Capital, which has lost some 9 per cent.

Yet even the three remaining managers have been bested by the funds we spoke about last Wednesday: multi-asset absolute return strategies were still just about in positive territory over the same period.

Sadly for fund selectors, those vehicles are no longer a feature of most portfolios.

But there's one more way to contrast old-fashioned multi-asset funds with the absolute return giants. As strings to bows go, AR funds' 1-2 per cent yields aren't likely to impress wealth managers. Still, they come out ahead of the old multi-asset favourites.

That's an inevitable consequence of the bears relying on bonds as a diversifier in an age of ever-lower yields. Balanced investors' portfolios will have this offset by the increasing - albeit increasingly uncertain - payouts offered by equities. Those who are dialing back the risk have fewer options.

Odds checker

As the series of panicked tweets by the 45th president yesterday implied, the sell-off also has consequences for this year's US election.

As employment continued to rise and the economy motored along reasonably well at the start of the year, president Trump had been favourite to triumph come November. The possibility of a pandemic, the growing chances of a recession, and shale-related job losses in swing states like Ohio and Pennsylvania are starting to change that.

With each day that the crisis continues, the odds rise that the Democrats will add the presidency and even the Senate to their current control of the House of Representatives. That said, now that Bernie Sanders is all but out of the running, the likelihood of the party using these levers of power to move the dial for investors looks greatly reduced.

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