Welcome to Asset Allocator, FT Specialist's newsletter for wealth managers, fund selectors and DFMs.
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Yesterday we noted that the single most popular active fund in each equity region had done a good job of maintaining returns amid the market rotation. The extent to which DFMs are reliant on this performance remains considerable – not least because active funds continue to dominate model portfolios.
Our research indicates it’s still only in the US where passive has a major foothold in balanced portfolios. Almost two thirds of the typical moderate portfolio’s US equity exposure is in passives. That compares with around 20 per cent for the likes of EM and Europe, and just 10 per cent for Japan and the UK. Nor have these figures changed materially over the past 18 months.
That’s despite the fact there’s a debate to be had this year: as market leadership changes, are fund selectors best off diversifying their active exposures? Or – given indices themselves continue to grind higher in the main – is a passive option the most prudent? Answers, needless to say, will vary depending on who’s answering.
If the debate proves finely balanced, then pressure to reduce underlying costs might become a factor, too. That would play into the hands of passive strategies, and many DFMs are increasingly mindful of this consideration. As it stands, however, wealth managers continue to look to active strategies for the bulk of their equity exposures.
Real asset risk?
It’s a slightly different story when looking at the other parts of a portfolio. Here, there are more obvious candidates for passive exposure: chief among them government bond funds, whether they be conventional or index-linked in nature. Across the industry, sovereign bond positions are currently three times as likely to be passive as they are active, according to our research.
That’s despite the outlook for developed market government debt being more uncertain than ever.
Set against this is the fact that these exposures remain a small part of bond weightings, let alone entire portfolios. DFMs instead focus the majority of their fixed income positions in two areas: strategic bond funds, which are active by their very nature, and corporate bond funds.
In the latter case, passive interest is relatively muted: just 20 per cent of investment grade credit exposure is taken via trackers or ETFs.
That means active funds ultimately dominate the bond portion of portfolios, too. For obvious reasons, passive doesn't get much of a look in when it comes to alternative assets, either.
The two exceptions are gold and, increasingly, property. The downfall of open-ended property funds has seen many more DFMs turn to trackers on this front. For the first time on record, property exposure is now more likely to be taken via a passive vehicle than an active one, according to our database. Whether or not these trackers truly bring diversification benefits to a portfolio remains up for debate.
The Investment Association is to reinstate yield tests for funds in its UK equity income and global equity income sectors this September, after a pandemic-induced break of almost 18 months. That makes sense, given market conditions are altogether calmer and dividend cuts are now largely accounted for.
In theory, matching up to index yields won't be too difficult for the foreseeable future, given how those cuts have reduced headline yields.
Yet it's worth considering the fact that commodity firms have been quickest to restore payouts in the UK: those avoiding this sector, for reasons of sustainability or otherwise, might be hard-pressed to keep pace.
Wealth managers do their own research and hence won't be too fussed either way. But the sight of funds beginning to fall out of the sectors once again - were it to happen - might still tell them something about the nature of the wider market.