Don't be confused when choosing a multi-asset fund
23rd April 2013 00:00
by Ceri Jones from interactive investor
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Multi-asset funds arguably have a big role to play in a low-return and volatile investment environment because the ability to switch between assets is particularly advantageous in an uncertain market.
Many managers in this sector also hedge some risks and add an overlay of short-term tactical plays to try to obtain as much return as possible.
For investors, however, choosing a multi-asset fund can be confusing - the mixed investment categories defined by the Investment Management Association (IMA) are determined by the level of equities in the funds and are home to very different beasts, in terms of performance risk, cost and style.
Research by Skandia has shown that the mid-range sector of managed funds is the worst for opacity, so much so that even financial advisers will not recommend 30% of its constituents. Yet certain funds in the sector have attracted massive inflows - the now stands at £4.4 billion for example.
All in a name
In January 2012, the Investment Management Association (IMA) finally renamed its managed sectors after a consultation process that had begun the previous May.
Under the new regime, the cautious managed and balanced managed sectors assumed the names of their ABI counterparts, becoming mixed investment 20-60% shares and mixed investment 40-85% shares respectively. The IMA active managed sector and ABI mixed investment 60-100% shares now fall under the flexible investment label.
When the names were changed some firms such as Fidelity voiced their concern that stating the equity content implies to investors that this is the only risk element in the fund, at a time when derivatives are widely used as well as other asset classes such as property and commodities.
There is a sense that some funds are constrained by the equity limits, and may even be forced occasionally to sell down equity positions just to meet the rules. Last year financial adviser Clarmond House fell out with the IMA over allegations that some of these funds regularly overstep their boundaries.
The IMA's classification of this sector is that its constituents must invest in a number of diverse investments, with between 20% and 60% in shares - a very considerable range - and at least 30% in fixed income such as corporate and government bonds. They must also have a minimum 60% in established currencies such as the US dollar, sterling and euro, of which 30% must be sterling.
In this article we analyse this moderate mixed-fund classification, rather than the more cautious 0-35% shares category or the so-called "balanced" (but actually more aggressive) 40-85% shares category, as the middle category is both the largest and the most ambiguous.
There are some 160 funds to choose from and, if you had selected a fund three years ago, you could be sitting on a return anywhere between +35% and -4.9% depending on the fund, compared with a benchmark (FTSE APCIMS Conservative blend) return of 19.61% and an average for the sector of 11%.
As well as Jupiter Merlin Income, other well-liked old stalwarts are , and , largely because they held up well during the credit crisis.
The table, showing 20 of the most popular funds and a handful of underperformers, reveals just how different their asset allocations are. The average exposure to UK equities across the sector is 21.2%, according to Lipper, but masks a wide divergence. While many leading funds have nearly 50% invested in equities, at the other extreme has just 14% in equities and fund has just 10% in equities, plus an additional 20% in property shares.
Those with a high current allocation to equities tend to be managers with consistent historical records, who switch their portfolios tactically as opportunities arise. Over time, many will change their asset allocations considerably, even pushing the boundaries of the IMA rules.
Other fund managers in the sector strike a relatively fixed and static asset allocation, which is reviewed and rebalanced at set dates. These providers tend to have a heritage in the insurance business, such as Legal & General and Prudential. According to Laith Khalaf, investment manager at Hargreaves Lansdown, Legal & General's multi manager fund is reviewed just once a year, for example.
Among the front runners in the sector, there is a further divide between funds whose returns are driven by stock or fund selection, which are often limited to equities and bonds, and those driven by asset allocation, which will typically have exposure to alternatives such as commodities or property. , the sector leader over a three-year timeframe, is a stockpicking fund led by veteran income investor Neil Woodford, as is , run by contrarian investor Alastair Mundy. Jupiter Merlin and Thames River specialise in fund selection. In contrast, , fund, and funds fall into the asset allocator bucket.
Of course, genuinely diversified managers can point to instances where an allocation to a different asset class has paid off. David Hambidge, director of multi asset for Premier Asset Management, highlights, for example, listed infrastructure funds, which have generated income of 5-6% as well as some capital growth.
In practice, however, there are winning funds in both categories. It seems the best managers - whatever their style - pull it off time and again, so success is down to skill and this sector is acknowledged to be one where many of the very best managers reside.
Looking ahead, a lot depends on where funds are currently positioned in the difficult bond market, in which the IMA says they must have at least 30%. Some funds such as Investec Cautious Managed and Newton Cautious Managed have attempted to avoid poor value by taking positions in super-secure government bonds in places such as Australia, Norway, New Zealand, and even New South Wales and Queensland.
Another difference that will prove crucial this year is how the funds have split allocations between the UK and internationally. Sterling performed well last year, but has lost about 7% of its value against the euro and the US dollar so far this year. Experts believe it could fall further in 2013. That will benefit funds with higher international weightings. Funds such as the and funds, heavily weighted to the UK, may not hold up so well.
Chris Burvill's fund also has nearly 60% of his assets in the UK. In contrast, Alastair Mundy, manager of Investec Cautious Managed, and Burvill's old rival at his former employer Investec, could do better in the months ahead as he holds more overseas, particularly in the US.
Henderson: Two funds demonstrate different styles
A comparison of the two Henderson funds demonstrates the different styles adopted in the sector. The fund, run by Chris Burvill, is based on adding value by stock picking within a rigid asset class model, while the fund, run by Bill McQuaker, is tactical and unconstrained, taking a view on asset allocations to add value. Both have performed well.
The advantages of asset diversification as a style have been thoroughly publicised by the providers of the many new multi-asset funds launched over the last year. The stock picking argument has almost been forgotten but Burvill, in a candid justification of eschewing alternative assets in the fund, says: "UK equities are sufficiently broadly based that we can gain exposure to most financial scenarios. Public UK companies are transparently priced, regulated and, importantly, contactable; all factors that become essential to us in difficult market conditions.
"Rather unfashionably, the [Henderson Distribution] fund has a number of constraints that we believe are very much to our investors' advantage. Our equity exposure cannot go above 60% and is unlikely to go below 40% for long periods, so we use a combined 50:50 UK equities to fixed interest index as a reasonable benchmark. We also have a number of weightings limits for equities, while bond duration is kept within specified bands."
The fund does not trade derivatives because, Burvill believes, "speculative or tactical plays are generally unnecessary".
Tactical plays on the margin are also significant in performance comparisons. "The last few years have taught us all to think more tactically," says Gary Potter, portfolio manager at Thames River. Along with other managers, Potter sometimes uses futures to effectively sell up to 5-7% of his portfolio to reduce equity exposure. "We're thinking of doing more of that now," he says. "The markets have had a good run, so we're considering whether to de-equitise the portfolio, and futures are a very simple and cheap way to do this. As managers in this sector, we have all had to grow up in recent years and learn to use derivatives at the margin."
Another common play is to buy put spread collars on major indices such as the FTSE 100 and S&P 500. This protects against some of the downside risk but allows for more upside profit potential, while others take positions in volatility on the Vix (volatility index).
In all probability, the current market has made everyone work harder, not just because of the slim margins, but also because asset classes have been behaving perversely, shattering conceptions of what is normal. Gilts have fallen for example while equities have soared, and safe haven currencies such as the US dollar, the yen and the Swiss franc have fallen back versus the euro. Even the traditional way of looking at small- and medium-sized companies has been turned on its head as these have outperformed blue chips in a difficult climate when traditionally they have done best in periods of growth.
The flexibility to move between asset classes is helpful, even if the switching is only between equities, bonds and cash. Take the banking sector, for example, fund team began 2012 with a constructive view on both bank equities and bank bonds, but preferred the risk-adjusted profile of the credit opportunities. "Maintaining a neutral bank exposure within the equity portion of the fund allowed us to take much greater exposure through financials credit [bonds], which subsequently outperformed the equities and with a fraction of the volatility," says the fund's manager Mark Whitehead.
A central manager will have an appreciation of all the risks in a portfolio, including not only any concrete holdings in a country but other exposures such as companies elsewhere that depend on that country for their revenues. A good manager should also have a good understanding of any unhedged currency exposure external managers are bringing to the portfolio.
All desirable things have a price of course, and in this sector the total expense ratios (TERs) are typically 1.6-2.5%. A look at the table above reveals that you largely get what you pay for. The best managers, such as Invesco Perpetual's Neil Woodford and Jupiter's John Chatfeild-Roberts, seem to have settled on a few basis points short of 2%.
At the foot of the table, some of the poorest performers, such as the and are marginally cheaper.
Khalaf at Hargreaves Lansdown says despite their high charges, a mixed fund still makes a lot of sense. "Many of these funds have a TER of 2-2.5% and this is a high hurdle to beat but some fund managers have repeatedly beaten it," he says. "If you are willing to keep an eye on a portfolio, you could undoubtedly do it more cheaply, but for most investors who do not want to be glued to the markets, these funds do a good job."
Interestingly, the largest offshore fund in this category in Europe is Bank Degroof's Global Isis Medium Fund, with a TER of just 0.86%. Manager Jacky Goossens says it is no coincidence the fund is both the cheapest and the largest. Its fees are kept low by using exchange traded funds for some of the most efficient markets.
Coutts is also trying to bring in its range of multi-asset funds at less than 1% using ETF exposure. However, Premier Asset Management, which also operates on this basis, using a mix of well-known funds and boutique names, plus investment trusts, structured products and ETFs, has not managed to keep costs down. Its Multi Asset Distribution fund has a TER of 2.25%.