Uncertainty grips global markets and the crisis in the eurozone continues, prompting panellists to play safe and drop several high-profile, but volatile, funds in the November rebalancing.
The November rebalancing has seen panellists pull some well known names out of the FE Adviser Fund Index (AFI) portfolios as political risk stalks markets.
Those excluded from the AFI include Martin Currie North American Alpha, Legg Mason US Equity, BlackRock Gold & General and L&G Diversified Absolute Return.
Many of them had been mainstays of the indices but faced with challenging markets panellists have chosen to take a cautious stance.
“I can certainly understand people wanting to de-risk their portfolios, so funds such as the Legg Mason US Equity fund might suffer,” says James Davies, a portfolio manager and fund research specialist at Close Asset Management. “I think if it was just down to markets people would be more confident in making active decisions. The problem is that the risk is mostly political.” (AFI continues below)
Over the past year the two American equity portfolios have suffered with the Legg Mason fund dropping 7.36% and the Martin Currie North American Alpha fund falling 9.83% in sterling terms. This compares with a S&P 500 return of 1.55% over the same period.
Similarly the BlackRock Gold & General fund has endured a tough market. The performance suffered a sharp setback in September as weaker economic outlooks affected the forecasts for the global recovery.
Considering the November AFI moves it was interesting that Evy Hambro, the manager of the fund, noted: “As global economic issues dominated the market, investors continued their rotation out of risk assets.”
Given the uncertainty that continues regarding the eurozone investors remain unwilling to take bets on what appears to be a binary outcome. These problems seem to have found their way into portfolio decisions with panellists choosing to move out of high conviction strategies.
Many of the funds listed have experienced significant volatility over recent years. It is perhaps unsurprising that nervous investors would move out of these types of products in this environment.
“The Martin Currie American Alpha fund is a high conviction strategy that has suffered and underperformed,” says Ben Willis, the head of research at Whitechurch Securities and fellow AFI panellist. “The JP Morgan US Equity Income fund has held up better in difficult markets and hasn’t lagged too much in the recoveries so we decided to make it our core US holding.”
This move to de-risk does beg the question over how the AFI portfolios will perform were there a market rally in the next six months. The Aggressive index, for example, has dropped 7.21% over the past 12 months to November 29 and indeed is only 10.53% higher than it was five years ago.
Given the precipitous market falls in September and the improvement in corporate sector balance sheets over the past few years many managers are making a good case for equities as a value play. Nicholas Williams, the manager of the Baring Europe Select Trust and co-manager of the Baring European Smaller Companies fund, says the dilemma is that defensive companies have already seen strong rallies.
“Last time around I thought people were being over-alarmist [about the risk to smaller companies] with expectations of around 17% default risk. We’ve seen no evidence of things deteriorating yet,” he says. “The defensive, cash rich companies have all outperformed hugely over the past six months and holding them now is fine if there’s no light at the end of the tunnel.”
The fallout from a disorderly outcome to the eurozone sovereign debt crisis would have an impact across all sectors, asset classes and countries. It is true that usually the effect would be felt to a lesser extent by traditionally defensive businesses, but given their recent rally they may have further to fall.
While moderating risk exposure during uncertain market conditions may be simple prudence, if fear becomes the dominant factor it could create its own vulnerable asset bubbles.
Davies says the structure of the AFI in itself may be behind some of the caution displayed at the latest rebalancing.
“I don’t know about the other panellists but the way I approach the AFI is that since you can only make changes every six months you have to find funds that you are comfortable holding for a sustained period. This tends to mean that you err on the side of caution.”
Angela Merkel, the German chancellor, and Nicolas Sarkozy, the French president, have so far expended a great deal of effort to prevaricate and obfuscate the necessity to deal with structural deficiencies of the single currency. The game of chicken with the markets may well be moving towards its grisly conclusion, but in the meantime investors will have to keep holding their breath.