Tony Finding, fund manager, macro investment business, M&G
For investment professionals. The value of investments will fluctuate, which will cause prices to fall as well as rise and investors may not get back the original amount they invested.
One of the main benefits of investing in a multi-asset proposition is that clients can choose a solution to meet their specific risk and return objectives. As they are not constrained to a single asset class, multi-asset funds are also well placed to be able to deliver these outcomes over a range of market environments.
However, the range and flexibility of these propositions creates a challenge in that different multi-asset strategies can behave differently with regard to risk and return. The sheer variety of approaches means that assessing the role any single fund could play in an institutional investor’s overall portfolio has become more complicated, especially as many have a similar ‘cash plus 3% to 5% p.a.’ growth target.
Diversified growth, diversified outcomes
‘Diversified growth’ funds (DGFs) are no different. DGFs are multi-asset funds that originally emerged in the wake of the financial crisis, in response to changing regulations and changing requirements of pension funds.
Although DGFs are typically tailored to meet the needs of institutional investors and have some degree of overlap in terms of what they are trying to achieve, it would be wrong to over-emphasise their similarities. Divergence of performance in recent years has highlighted the extent to which DGFs can have very different characteristics.
For example, many DGFs were originally considered as equity replacement vehicles, with an aspiration to act as part of the ‘growth engine’ of a pension scheme, but with lower volatility than equity markets. Others have been marketed on the basis that they will also have low correlation to equities, either by holding alternative (typically less liquid) assets or by employing strategies such as relative value trades. Others are more explicitly viewed as having insurance-like properties, offering the potential for positive returns when other risk assets struggle.
These objectives are ultimately different and it may not always be possible to achieve all three. Insurance typically comes at a cost and an emphasis upon protection can entail giving up on delivering ‘equity-like’ levels of growth. Similarly, an explicit focus on targeting very low levels of short-term volatility or correlation with equity markets can also serve to act as a constraint upon asset allocation. The different priorities that DGFs place on the various outcomes above could mean different return profiles over meaningful periods. Institutional investors will need to be clear about how these differences may manifest themselves in a portfolio context and how much of a role prevailing market conditions can play in the ability of DGFs to deliver.
DGFs in recent market context
It is only in recent years that some of the differences in DGFs have begun to manifest themselves in terms of performance. Prior to 2016, the environment was one in which traditional safety assets (most obviously Western government bonds) delivered ‘equity-like’ returns in their own right. At the same time, fixed income assets also tended to provide portfolio insurance in periods of market stress in other asset classes.
This meant that even traditional multi-asset portfolios with relatively static asset allocations were able to deliver the type of return profile that institutional investors looked for in DGFs. The normal trade-off between short-term safety and longer-term returns was less in evidence than one would normally expect.
This has changed in recent years. From a low starting point of yields, safety assets have not been able to generate the same returns as they had for much of the period since the financial crisis. Even more recently, fears concerning rising interest rates in the US and elsewhere in the world mean traditional safety assets, like treasuries, have been a source of volatility rather than an insurance policy. DGFs have had to show that they have not simply benefited from market conditions but are truly able to perform in all environments.
Looking ahead
The less constrained nature of multi-asset funds should make them a highly attractive tool for institutional investors, but with this comes an additional requirement to understand the nature of each fund on a case by case basis.
The changing environment of the last couple of years has represented a test for DGF strategies as demonstrated by the dispersion in returns across the DGF universe. If DGFs and other multi-asset funds are to deliver their return objectives in different market conditions they will have to be able to demonstrate their flexibility and ability to navigate the ever-changing investment landscape.
For Investment Professionals only.
This article reflects M&G’s present opinions reflecting current market conditions. They are subject to change without notice and involve a number of assumptions which may not prove valid. Past performance is not a guide to future performance. The distribution of this guide does not constitute an offer or solicitation. It has been written for informational and educational purposes only and should not be considered as investment advice or as a recommendation of any particular security, strategy or investment product. Reference in this document to individual companies is included solely for the purpose of illustration and should not be construed as a recommendation to buy or sell the same. Information given in this document has been obtained from, or based upon, sources believed by us to be reliable and accurate although M&G does not accept liability for the accuracy of the contents. The services and products provided by M&G Investment Management Limited are available only to investors who come within the category of the Professional Client as defined in the Financial Conduct Authority’s Handbook. M&G Investments is a business name of M&G Investment Management Limited and is used by other companies within the Prudential Group. M&G Investment Management Limited is registered in England and Wales under number 936683 with its registered office at Laurence Pountney Hill, London EC4R 0HH. M&G Investment Management Limited is authorised and regulated by the Financial Conduct Authority.
