Fortune favours flexibility in today’s income-challenged environment
Category: Global, U.S.A.
By Hui Ching-hoo
Asset class diversification is a key risk-mitigating strategy
With US monetary policy and the economic slowdown in China casting a shadow over the plain vanilla market outlook, the multi-asset mandate looks like a panacea with the promise to tide investors through these volatile market conditions given its capability to shift proactively between asset classes, capturing market and sector moves and reducing draw down risk.
Asia Asset Management talked to several fund managers to tap their views on their investment strategies and how they strive to strike a balance in their portfolios.
Eric Lonergan, fund manager of the multi-asset team with M&G Investments, reckons that multi-asset funds are useful as a ‘one-stop-shop’ for investors looking to delegate asset allocation decisions. They can invest in several asset classes, often across a wide universe of these; ensuring investors are not exposed to the market movements of just one asset class. The performance of multi-asset funds is typically less erratic then single asset funds, especially equity funds. Portfolios can be tailored to meet a range of investors’ risk and return aspirations.
Andy Warwick, a portfolio manager with BlackRock’s multi-asset income fund, notes the withdrawal of the US quantitative easing marks the end of the bullish run seen in the bond market.
“We’ve seen a constant inflow into credits over the past five years, but investors are expected to pull out of fixed-income assets. The sticking point is that if investors have significant exposures to treasuries and bonds, it is difficult for them to shift quickly to other assets,” he notes.
As such, a multi-asset product will be able to serve as a ‘stepping stone’ for such investors when moving from fixed income to higher risk assets.
Mr. Warwick points out that the BlackRock global multi-asset income fund is looking to raise its equity allocation at the expense of the fund’s investment grade bond areas. “We have about a 15% weighting in investment grade credits in the portfolio, a proportion that will be slashed to approximately 10%. On the other side, we may raise the equity position up to 50%,” he says.
He goes on to point out that “…the fund has mixed strategies in developed and emerging market equities. It plans to raise investment in developed market equities as European equities look very attractive in terms of their valuation.”
Denis Gould, chief investment officer of Hong Kong multi asset and wealth at HSBC Global Asset Management, notes the company’s three multi-asset funds – the conservative fund, the income fund, and the growth fund – have been well-received in the market as investors are looking for instruments to diversify risk.
“The funds feature various risk profiles. The income fund we launched last May in particular has drawn an overwhelming market response; the economic woes in Greece afforded the fund a very attractive entry point.”
Mr. Gould goes on to say that the income fund’s portfolio has about 23% invested in equities, 15% in high yield (HY), 37% in investment grade credits, 15% in Asian local currency bonds and 10% in global emerging markets local currency bonds. “Our multi-asset funds are defined by their level of risks. This provides investors with broad guidance to determine which assets best suit their risk tolerance,” he explains.
Mr. Gould elaborates saying that the income fund favours equities over fixed income because the bond yield is too low to drive the future returns: “The fund is maximising its weighting in equities at the expense of HY, but seen the other way, it can slash its equities’ weighting to zero if the interest rate environment reverses.”
On the fixed-income side, Mr. Gould adds that the fiscal pressure shows no signs of easing across many developed regions, such as Japan and eurozone countries with interest rates locked at a low level. Rising yields are yet to emerge on the horizon, so corporate and investment grade credits remain the key components in the fund’s portfolio.
Anthony Ho, a client portfolio manager with the global multi-asset group at J.P. Morgan Asset Management, states: “Multi-asset funds are spread across uncorrelated strategies with a wide range of asset classes such as developed and emerging market equities, preferred equities, HY bonds, emerging market debt, convertible bonds, and real estate investment trusts. Asset class diversification is a key risk-mitigating strategy, meaning security selection risk tends to be minimised through holding a highly diversified global portfolio. Taking an actively managed, flexible asset allocation approach to bring together the best risk-adjusted sources of income globally is a more dynamic way to counter today’s income-challenged environment.”
J.P. Morgan’s multi-income fund provides the following:
It exploits income opportunities globally from across the full range of asset classes;
It pursues a flexible allocation strategy to access the most attractive sources of income;
It is a yield-orientated multi-asset fund designed to provide a stable monthly income;
It is an actively-managed, directly-invested portfolio.
According to Mr. Ho: “The objective of the fund is to maximise the income return through investing in a diversified portfolio of global equities and bonds. Hence, we do not manage the fund against a benchmark. Given the diversity of asset classes and security holdings, the fund’s composition has been kept well balanced. We continue to be constructive over the medium term, as reflected by our large weighting to equities, while high quality fixed income should provide diversification benefits.”
He continues: “We have been increasing our direct equity exposure at the expense of high yield, preferring to take more risk through equity rather than through extended credit, particularly as yield spreads between equity and fixed income have narrowed. Most of the equity increase has been in global equity, where relative valuations in Europe are attractive and tail risks have been mitigated.”
According to Leon Goldfeld, director, investment at Amundi Hong Kong, the firm’s multi-asset fund approach is to customise the overall level of risk to client risk tolerance and time-horizon requirements as well as client constraints such as cash flow needs, liability profile, tax issues and other factors. “Therefore, we do not adopt a cookie cutter approach but prefer to tailor solutions to individual clients. Within this we apply consistent tactical views – but the magnitude of the allocation and size of the position needs to be calibrated with each client’s individual requirements. We monitor the portfolio on an ongoing basis and make allocation and security changes as required.”
He adds: “Right now, from a tactical perspective, we have been increasing exposure to European equities, where we are seeing stronger growth momentum into the second half of 2013. We have also added positions in more cyclical stocks covering industrial, consumer discretionary and selective technology and financials where we see attractive valuations and improving growth outlook. In fixed income we have been reducing exposure to longer maturity bonds to control duration and also to protect from the bear-yield curve steepening. We continue to like credit but are balancing the credit allocation against the equity exposure.”
Toby Nangle, head of multi asset with Threadneedle Investments, says the company’s global asset allocation fund is a long-only, unleveraged index-unconstrained volatility-controlled fund. The aim is to deliver 100% of equity returns with up to two-thirds of equity risk over a three-to-five year horizon. The fund invests in equities, bonds, cash, commodities, and alternatives. The portfolio is constructed by the fund manager in line with the Threadneedle asset allocation process, which makes use of a number of key strategies, setting meetings combined with information delivered by analysts at the company level.
Inclusion of alternatives
Alternatives have become an increasingly important investment tool for many multi-asset managers seeking risk diversification because of their low correlation with conventional asset classes – although some remain cautious about accessing the niche market due to the high management fees and high-risk exposure.
Mr. Warwick reveals that BlackRock’s multi-asset income fund is considering expanding its investment in alternative assets such as real estate, private equities, and master limited partnerships (MLPs). “If we only spread our monies relative to what the fund’s composites, the MSCI World Index and the Barclays Capital Global Aggregate Bond Index Hedged, are tracking, we will end up with a yield of less than 2.5%,” he notes.
“Therefore,” he adds, “we have to generate our income from various sources with low correlation to diversify market risks. For example, we invest in infrastructure via MLPs in the US, which got through the market sell-off unscathed in May and June. Another area we recently invested in is solar farms; this is because the business is uncorrelated with equity and bond markets. The fund currently has about 8% invested in alternatives and we’re considering raising the weighting up to 12% moving forward. If we lose some income from the reduction in coupon payments engendered by the withdrawal of fixed income, alternatives can come in to make up the shortfall.”
HSBC Global AM’s Mr. Gould says although the firm’s multi-asset funds have a weighting in listed properties, they are not keen to raise their position with alternatives. “It is difficult to come up with a well-considered return forecast for alternative assets. This, coupled with their high management fees, makes exotic instruments less attractive compared to their plain vanilla counterparts.”
Mr. Goldfeld of Amundi says he doesn’t view alternatives as a generic strategy due to the fact that many of the assets labelled as “alternative assets” have distinct characteristics. “Moreover,” he says, “the challenge with alternatives is that they are subject to very high idiosyncratic risk. There is a much wider spread of returns between second and third quartile private equity funds than there is between the second and third quartile of long-only equity funds. Liquidity is obviously another major issue. For these reasons, our use of alternatives is very selective and is normally implemented only for large clients with very long-term objectives.”