If the primary market trend changes, you must actively manage asset allocation, says Anthony Rayner, fund manager, Premier Miton Macro Thematic Multi Asset Team.
More often than not, financial market history has extended periods where it is dominated by a primary trend. We call it a primary trend because it tends to be the dominant force across geographies and asset classes, and it often goes on for longer than most expect.
Our longer term investors will know that for many years we believed that inflation, central bank rates and yields would be “lower for longer”. This proved the case: rates fell across the yield curve and across geographies and it was the defining dynamic across asset classes. As a result, investors with long duration bonds and long duration equity, such as growth stocks like tech, performed well in absolute and relative terms. The end of this dynamic was falsely called numerous times.
Nevertheless, this dynamic has now ended and we entered a “higher for longer” period around two years ago. The consensus view is that we will shortly revert to an environment that resembles the lower for longer period. Indeed inflation is falling across geographies.
However, we believe it is more likely that inflation will reaccelerate, rather than obediently fall to pre-covid levels and remain there. Having fallen, we believe that inflation will move back to a level that most central banks are uncomfortable with, in large part due to a lot of the same structural factors that drove the disinflationary “lower for longer” period going into reverse. For example, globalisation moving to deglobalisation, abundant supply of resources to tight supply of resources and a move from fiscal prudence to fiscal profligacy. Clearly, higher for longer won’t go on ad infinitum but trends generally carry on for longer than investors expect.
Pragmatism dominates everything we do. In the lower for longer period, having a longer duration across bonds and equities gave our absolute and relative performance a strong headwind. Similarly, during the last two years, having short duration bonds and shorter duration across equities, typically in sectors like resources and banks, has again helped the performance of our multi asset range.
The pitfalls of not having a pragmatic approach to risk is well illustrated by some of the multi asset passive funds. This is particularly well illustrated in the IA Mixed Investment 0-35% Shares sector, where there is generally a material bias to bonds. Many of these passive funds did very well in the lower for longer period, in absolute and relative terms, in large part as their bond exposures had a bias to long duration, as per the indices they track. As a consequence of this strong performance, and low charges, their fund sizes grew significantly and they now make up some of the largest funds in the sector.
However, in the last three years, more recently dominated by a higher for longer environment, a number of these funds have had a shocking period of performance, due to that same exposure to long duration. In short, the environment changed and these funds’ asset allocation didn’t.
Low cost multi asset index funds might mean low relative risk against the index but that doesn’t mean they don’t have higher risks in both absolute terms and relative to their peers. During this more recent period, there is demonstrable risk of capital loss and high volatility in absolute terms and relative to peers. Most things are cheap for a reason: the low OCF of multi asset index funds means it’s down to the IFA to actively asset allocate.
Our base case of higher for longer might be right and, of course, might be wrong. The beauty of running an actively managed multi asset range is that we can adjust portfolios accordingly.
This information should not be relied upon by retail clients or investment professionals. The views provided are those of the author at the time of writing and do not constitute advice. These views are subject to change and do not necessarily reflect the views of Premier Miton Investors. The value of investments may fluctuate which will cause fund prices to fall as well as rise and investors may not get back the original amount invested. Reference to any particular investment does not constitute a recommendation to buy or sell the investment.
