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Delayed gratification

Credit is often viewed by investors as the canary in the coalmine: quickest to react to potential warning signs. But when the news is good, it’s not quite so simple – and recent weeks have been a case in point.

While equity markets rallied sharply on the news of viable Covid-19 vaccines, credit was slower to price in such scenarios. That’s consistent with the asset class’s reputation as a more cautious assessor, perhaps – but even fixed income managers have described the lack of activity in response to the Pfizer announcement as “incredibly modest”.

That delayed reaction gave DFMs’ favourite bond funds ample time to take advantage of the news. And the end result is more or less the same as in the equity world: analysis of strategic bond funds’ Q4 allocation changes shows most took the chance to add more risk in the fourth quarter.

So our latest sample of the 30 strategic bond funds most commonly found in UK wealth managers’ portfolios shows the average positions in BBB-rated bonds – the lowest rung of investment grade – dropped by two percentage points on the quarter, down to 33.2 per cent on average. That was mirrored by an equivalent increase in BB or B-rated high-yield bonds, allocations to which now stand at 31.7 per cent.

And while CCC-rated positions remained the same at a meagre 2.2 per cent, unrated credits continued to creep higher. These now stand at 4.5 per cent of the average portfolio, and perhaps reflect the need for bond managers to work a little harder to find the best opportunities nowadays.

Most these changes would have been rewarded in the short term: credit markets as a whole soon joined in the party. The iTraxx Crossover index rallied hard in December, in keeping with equity markets’ own moves. But the bond market’s initial delayed reaction was almost certainly seized upon by more than one strategic bond portfolio.

Cutting back

One particular strategic bond fund was in the headlines last Friday: cuts to M&G Optimal Income’s fees were among the most notable of the series of reductions revealed by FTAdviser.

The fund’s annual charge will fall by between 25 and 35 basis points. And while the strategy didn’t have a particularly great 2019, the change has less to do with performance and more with a pricing structure that was increasingly out of sync. Optimal Income is still far from the cheapest strat bond fund, but it is now more competitive.

M&G isn't the only firm to make price cuts in recent years. And things have accelerated in the past 12 months, courtesy of the "value assessments" that have given providers a reason to take stock.

Not all these changes have been sizeable ones – many have simply trimmed around the edges. But wealth managers armed with big asset bases are also able to cut deals of their own, of course. Increasingly, there is a recognition that average fee levels are not what they once were, and an acknowledgement from providers that they risk being left behind if they do not act.

The same trend is evident in the closed-ended world, where changes of investment trust manager are regularly accompanied by stock exchange announcements confirming lower charges. But not all wealth managers think these shifts are enough: Premier Miton’s multi-asset team say many of its trust favourites are “at an increasingly large disadvantage to their open-ended equivalents” simply due to their fee structures.

The team have recently sold out of BlackRock Frontiers, partly on this basis. That's a more specialised offering than many trusts, admittedly, so a case could be made that it's not one of the biggest fee culprits. Nonetheless, it’s a sign that fund selectors may not tolerate discrepancies for much longer.

Tracking higher

Passives, meanwhile, continue to rule the roost, particularly in the US. ETF inflows rose by a third last year, with more than half – almost $400bn – garnered by just two companies.

They are, inevitably, Vanguard and BlackRock. As Lex reports, the two, when coupled with State Street, now account for around a tenth of the world’s quoted securities.

The question, as the columnists note, is if and when this dominance starts to become a problem in policymakers’ eyes. Their attention is currently fixed on technology businesses. And it’s true to say that some worries over ETFs – such as their role in periods of market stress - have yet to be borne out by reality. But it won’t take many more years like the one just gone before politicians start to pay more attention.