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Asset Allocator

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Wealth firms' flagship MPS ranges take a back seat; The balance sheet balancing acts

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Moment in the sun

To use one wealth manager’s words, one of the founding principles of ESG is that small changes can have a big impact.  And that’s certainly the case for the performance of the DFM portfolios dedicated to this theme.

Covid-19, coupled with March’s oil price slump, have helped bring ESG’s qualities into sharper focus for asset allocators. The market’s focus on quality stocks and an aversion to fossil fuel companies have played to its strengths, and helped keep ESG fund sales relatively buoyant.

And it’s not just about equity markets. Of the 46 explicitly sustainable funds in the IA sectors, for example – a collection that includes equity, bond and multi-asset strategies - 80 per cent have outperformed their respective sectors so far this year. Almost two thirds are in the top quartile.

DFMs, too, have found their specialist ESG portfolios are providing some resilience. The average three-month return for a moderate ESG model portfolio stood at a relatively respectable -5 per cent at the end of April, compared with a 7 per cent loss for regular balanced strategies.

In every case, discretionaries’ ESG offerings have outperformed their conventional portfolios over the past three months, according to our database. As a result, longer-term figures are also starting to show a similar performance gap. Wealth manager ESG strategies are also ahead of their traditional equivalents over 12 months in all but one instance.

For all the talk about ESG outperformance seen over recent years, this is the first time that such portfolios have truly dominated the performance tables in this way. That may not always remain so. But for now, on the eve of new requirements that demand wealth managers incorporate sustainability considerations into their practices, the stars really are aligning for such offerings.

Strength in numbers?

Another cash call arrived this morning from a leading UK stock as Whitbread announced a rights issue. The problems facing the Premier Inn parent’s businesses need little elaboration here. But the news does again emphasise the importance of balance sheet strength. Cash (on hand) remains king for companies large and small. That’s the main reason that newfound groupings like the ‘Granolas’ are all the rage at the moment.

Yet as of last week, investors weren’t quite so focused on balance sheets as some might have expected. Not, at least, according to Deutsche Bank. Looking at US stocks since the start of the coronavirus crisis, the bank’s research team found relatively little difference in the performance of highly levered companies and those that were more prudent.

That said, those with less leverage did do slightly better on both the way down and in the subsequent rally. And allocators might reasonably expect this gap to widen further, as the difficulties of surviving without two or more months of income become apparent.

Equally, the experience of dividend payers risks undermining this message. After all, it's not just companies with weak cashflows that have stopped or cut back on payouts.

Some of those with well covered dividends have also recognised that now might be a good time to pare back – even if their share price suffers as a result. The very prudence that made them resilient in the first place is also encouraging them to pause distributions for now. That’s a sensible philosophy, but it does mean that a focus on strong balance sheets won’t necessarily protect investors from future shocks.

Gilt trip

Worries about governments’ own balance sheets have resurfaced this year, courtesy of the giant, albeit necessary, stimulus programmes being rolled out in response to the pandemic.

As we discussed last week, mutterings over future levels of inflation are already emerging as a result, even if all participants recognise that this isn’t a short-term concern.

The evidence from the bond market suggests it isn’t much of a medium-term concern, either. The UK yesterday borrowed at negative rates for the first time, courtesy of an auction of a three-year debt. It's still early days in this crisis, and many observers insist the day of reckoning is ultimately unavoidable. But the structural demand for gilts and other safe government bonds will take some shifting, whatever the expansion in borrowing being rolled out by the UK and others.

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