Like big hair and tight jeans, the traditional balanced fund fell by the wayside in the 1980s as the sharp-suited specialists moved in. But with the prospect of high inflation and prolonged unstable markets not seen since those forgettable fashions, super funds are beginning to hearken back to a time when tactical asset allocation was part of the package. STEPHEN SHORE reports.
The concept of “set and forget” asset allocation is now redundant, according to Simon Doyle, head of fixed income and multi-asset at Schroder Investment Management. Schroder runs a number of what it has dubbed ‘CPI-plus multi-asset strategies’ that focus on risk rather than asset allocation. As risk premia move around, the portfolio shifts towards assets that give the greatest chance of achieving the desired return. “It is like a dynamic, strategic asset allocation,” Doyle says.
What differentiates this new paradigm from the old balanced model is that risk has become the most important factor, says Andrew Lill, director of investment strategy at Russell Investment Group. “The balanced funds of the 1980s were focused on maximising return, with one eye on risk,” he says. “Multi-asset managers use alternatives and financial engineering to minimise risk for a set objective.”
There are certain factors that are inherent in most portfolios, such as concentrated equity risk, Lill explains. Equity has profit-growth risk; portfolios tend to move in a cycle with corporate profits. “There are other aspects of the economy to consider,” he says. Multi-asset managers try to create a portfolio that will perform well in all economic circumstances. The goal of a multi-strategy solution, Lill says, is to aim for a certain level of risk and use leverage to reach it.
Doyle says CIOs spend too much time thinking about manager exposure over market exposure. “It is more important to be in the right market at the right time,” he says. “There may be times when the portfolio holds no equities. A super fund might have selected the best equities manager, but if equities are losing 20 per cent and its manager is only losing 18 per cent, does that really matter when the objective was inflation plus 5 per cent?”
Multi-asset mangers run scenario testing to look for factors that might affect the strategy that could be hedged, Lill says. “There are things that tend to affect all asset classes, such as high inflation, low economic growth, and low productivity growth. Generally speaking, a multi-asset portfolio might have a lower proportion of equities, bonds with leverage, and an overlay of property, but the allocation is not something that remains static.”
The trade-off is giving up some of the upside for more predictable returns. Michael Blayney, investment consultant at Watson Wyatt says one attraction such a manager might offer is an exposure to a range of diverse assets while avoiding the time consuming governance issues of investing directly. “You can buy something that is effectively pre-packaged, and it gets you the exposures you want without having to go through the process of buying and managing each one,” he says. “It is a way of getting exposure quickly to a lot of different risk premiums.”
Doyle warns that super funds trying to invest in alternatives themselves might not be getting the solutions they are after. “A lot of the alternatives are unlisted, so the true volatility is unknown. The multi-asset managers regularly mark to market,” he says. Multi-asset managers say that they have an advantage over CIOs trying to construct such a portfolio themselves because they have the flexibility and agility to shift positions, can apply leverage to different strategies, and traverse the entire spectrum of asset classes. “Nothing is off limits,” Doyle says.
He adds that the CIO should be agnostic to the positions its multi-asset managers hold, and not try account for them in other parts of the portfolio. A multi-asset manager could take a slice of the alternatives bucket and be a 5 per cent to 10 per cent holding in a large fund, he says. But the portfolio is transparent. “The CIO could look at the way we are invested, and it might help them. We are happy to talk to all our clients about the theory behind why we are taking certain positions.”
But Lill says that super funds may want to spread the manager risk by hiring a number of multi-asset managers. “It is can be dangerous to invest with a manger that only considers its own assets. It is easy to overlook the risk inherent in one’s own products,” he says.
Chris Condon, chief investment officer at MLC, agrees. Condon runs the MLC Long Term Absolute Return fund, a multi-manager fund with a similar target for inflation-adjusted returns. “We decide to go with managers based on whether we think they are excellent investors, not whether we own them or not,” he says.
Lill says that theoretically there is no reason why a multi-asset approach couldn’t go across an entire fund’s portfolio. “Most large super funds would hesitate to go over 5 per cent, and part of that is peer risk,” he says. “The funds are reluctant to be the first mover with new concepts like this.” It has been reported that some pension funds in the US have awarded up to 90 per cent of their portfolios to a small number of multi-asset managers. But Simon Eagleton, principle at Mercer Investment Consulting, says hiring only multi-asset managers would require a shift in tolerance for high fees and illiquidity, which is unlikely to happen any time soon in superannuation.
There are plenty of global mangers who could put something together if the client gave them the mandate, Blayney says. “We have talked conceptually about giving up an inflation-plus mandate to a house that had capabilities in a lot of areas and could generate an absolute return, but that would be the domain of a large institutional manager.”
BNY Mellon Asset Management has plans to get institutional funding within the next month for a multi-asset fund comprised of its 16 in-house boutique managers. Don Russell, global investment strategist at BNY Mellon says it is ideally placed to offer a multi-asset solution from the diverse alpha streams of its managers. “The big advantage to the investor is that they don’t have to go out and negotiate seven sets of fee deals. They are paying for one fee, and they are only paying a performance fee if the overall multi-asset portfolio is doing what it should,” he says.
Multi-asset managers are basically a sophisticated balanced fund, Russell says. “It’s ironic in a way, that as investors have become more advanced, some have gone back to embracing this more traditional style of portfolio management where you pick a number of all-rounders and leverage their tactical asset allocation skills.”