Asset AllocatorMay 28 2020

Wealth managers struggle to build stand-out portfolios; How to win the correlation game

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More in common

Fortunes favours the brave, but in times of adversity, investors tend to huddle together for protection. That’s very much the perception at the moment: the consensus is that individual investors and fund managers are favouring a select band of stocks.

DFMs' own strength in numbers stems from a difference source. Yesterday we discussed how wealth managers were united in leaving equity allocations untouched in April. And this unity doesn’t stop there: when it comes to equities, moderate portfolios are resembling one another increasingly closely as time goes by.

There’s always going to be a degree of homogeneity in an industry where MPS ranges are governed by risk-rating demands. But the number of outliers are also starting to dwindle. Eighteen months ago, we noted that a small band of DFMs had zero-weighted US equities. Today, this small group has halved. That’s bound to be a reflection of US shares’ continued strength: the opportunity cost of ignoring the market entirely will have become too high for some.

But a similar trend can be seen on Europe. As the chart below shows, there are very few discretionaries willing to avoid the continental equity market in its entirety – despite many being willing to express their scepticism in client communications and other investment updates.

The exceptions to this general prudence are EM and Asia, where one in four wealth managers feels comfortable shunning one or the other. Outside of these areas, discretionaries are increasingly content to spread their bets more thinly, across a wider range of regions, than they once did.

Spot the difference

Yesterday we reported that two thirds of stocks globally are still in bear market territory. That, combined with allocators’ continuing preference for specific investment styles and sectors, would seem to bode well for active managers. Bloomberg, however, points out that the S&P 500’s three-month realised correlation remains stubbornly high – at its highest level in eight years, to be precise.

Understandably, that’s taken to mean that investors are focused on the pandemic’s effect on stocks and economies en masse, rather than company-specific issues. Not exactly an environment in which active strategies typically flourish. But other data does point to more opportunities for canny buyers – those who invest on an international basis, at least.

US housebuilders, for instance, have rallied particularly hard in the past couple of weeks. Having shed more than half their value in March, these stocks are now virtually flat for the year. That’s based on the variety of US states that are now coming out of lockdown, as well as data suggesting the housing market is proving surprisingly resilient to pandemic concerns.

On these shores, by contrast, most housebuilders remain 15 to 20 per cent lower year to date, despite the UK’s own emergence from lockdown now getting underway. Investors will have their own views on the viability of these economic reopenings, and on the relative merits of the US versus UK markets. But this kind of performance discrepancy underlines that investors only caring about one thing doesn’t have to spell disaster for active managers.

Monetary magic

Certain central bankers struggled to shake off the “unreliable boyfriend” tag in recent years. But for the Federal Reserve, overpromising and underdelivering has proven a perfect strategy for 2020 thus far.

The series of programmes and mechanisms announced by the Fed in March in a bid to stabilise markets have largely yet to be drawn upon. Simply announcing their existence was enough to reassure investors that the central bank would, if necessary, have their back.

These moves also went a long way to confounding those who said central banks had run out of ammo. They may need to be more specific than simply announcing “whatever it takes” nowadays, but policymakers have shown they still have plenty of firepower to draw upon. Allocators’ hope will be that most of these initiatives can remain hypothetical – and that fiscal policies will prove as successful in helping prop up confidence over the coming weeks.