Multi-managers are diversifying their funds to protect investors, as the eight-year bull run shows no sign of slowing down. Some are adding alternative investments to equity and bond positions in portfolios, to safeguard against shifts in sentiment.
Nathan Sweeney, senior investment manager at Architas, has been embracing asset classes that move in different directions. ‘When putting together a portfolio, the key is diversification,’ he said. ‘We’re trying to find something uncorrelated to equities and bonds.’
Among his chosen positions are catastrophe bonds and aircraft leasing. He also believes there are benefits to holding cash, despite rock-bottom interest rates meaning you are getting paid hardly anything.
‘It gives you downside protection,’ he explained. ‘Monetary policy coming to an end could lead to more volatility, so having cash as an asset class makes sense.’
Alternatives account for between 3% and 10% of Sweeney’s portfolios. ‘We’ve been increasing it slowly,’ he said. ‘If we come across something interesting that’s truly uncorrelated and provides diversification, then it’s worth looking at.’
Another position he has in his defensive funds is gold. It did not feature a year ago, but now qualifies for a modest 2% position.
‘It provides downside protection in periods of stress,’ he said. ‘It’s there because both bond and equity markets could sell off due to central bank interference.’
Changing global climate
Mike Brooks, Citywire AA-rated head of diversified multi-asset strategies at Aberdeen, pointed out ultra-low interest rates and quantitative easing had pushed government bond yields down. ‘Future returns from sovereign bonds and low-risk investment-grade corporate bonds look set to be low. Equity markets have reached record levels and now look expensive, indicating their returns will also be muted,’ he said.
Political volatility in the developed world and geopolitical instability the Middle and Far East means there is potential for dramatic market reversals. ‘There is also the potential for equities and bonds to sell off together if the impacts of quantitative easing reverse,’ he added.
Outside the bond box
Brooks invests across a wide range of alternatives. He believes looking beyond traditional bonds and equities provides access to assets with compelling yields and diversification benefits. ‘These include emerging market bonds, infrastructure, high-yield bonds, corporate loans, mortgage-backed securities, insurance-linked securities and peer-to-peer lending,’ he said.
Looking ahead, Brooks expects investment markets to deliver significantly lower returns and warns anyone trying to extrapolate from the past will be disappointed. ‘While we expect some gradual interest rate increases in the US, we believe interest rates globally are likely to remain relatively low for an extended period,’ he said.
He believes equities are unlikely to provide a significant source of income in the foreseeable future, barring a major shock that sees market falls and valuations rerating. ‘The need to look outside traditional asset classes for income is likely to grow,’ he said.
Keeping it simple
However, John Chatfeild-Roberts, Citywire AAA-rated head of strategy and independent funds at Jupiter Asset Management, is not a fan of alternative asset classes. ‘Our approach is to keep it simple as we’ve always viewed investment as an art and not a science,’ he said. ‘The basic principles don’t change over time.’
He insists liquidity is a particularly important factor in his decision-making process, as well as the presence of gearing. ‘Many asset classes people think are frightfully interesting tend to have liquidity issues,’ he said.
This is why the Jupiter Merlin range of funds is heavily weighted towards equities and bonds.
For example, his Jupiter Merlin Income fund currently has 42.1% in UK equities, 32.4% in fixed interest, 12.9% in global equities and 2.2% in Asian and Emerging Market equities. It only has 9.7% in other assets, currently commercial property and a physical gold exchange-traded fund.