Roundtable

Multi-asset investing

Markets have entered a new era and for some multi-asset investors it has proved a bumpy ride.

January 2019

Portfolio Institutional: Is multi asset simply about owning lots of assets?

Paul Flood: Multi asset is as much about what you don’t own as what you do own. What matters most is having the flexibility to be able to own anything rather than the ability to own everything. Owning the right asset classes at the right time is the whole point of multi asset.

Steven Andrew: There’s an important distinction that the client is undertaking when they ask you to deliver what the multi-asset product is there for. With single asset class investing the client is saying: “Of all the fixed income or equity assets out there, please do better than that lot.” So you end up with a relative benchmarking framework, whereas with multi asset they are saying: “I’m delegating to you what the sensible shape of the portfolio is given what my fund demands and needs are.” You are being
empowered to craft a portfolio of assets that is consistent with that.

Peter Martin: Multi-asset investing is a philosophy. It is about diversifying your sources of return, taking account of any sub-optimality in relative value and having a wide opportunity set. We are all trying to achieve an outcome in a risk-adjusted fashion, but it’s trying to do so in a way which has exposure to different types of return. If you harvest different premia or returns you should have a more robust and stable return stream over time. Obviously, it may not work in all market conditions. There are three fundamental building blocks: you either own a company, lend money to a company or you own a physical asset, which could be property. All the sophisticated things we do in equities, fixed income or real estate are just variations of that. In the end we are trying to go for the three main drivers and to diversify those streams to get the return we need. That could be for a growth fund or for the income needs of defined contribution (DC) scheme members. So it is a philosophy, not a categorisation.

Adrian Mitchell: I agree with your view about diversifying the various drivers of your returns. It’s similar to any form of investment. You need to work out what your investment objective is, look at the expected returns for all asset classes, which vary over time and in different market conditions, and the correlations. When I’m building a multi-asset growth portfolio I’m looking to achieve the investment objective over time in as smooth a way as possible and to minimise the downside risk.

Flood: The growth thing is a bit of a misnomer, because most diversified growth funds (DGFs) are not trying to maximise growth. Diversified return is for low-risk investors who want a smoother return profile. On the other side you have multi-asset income. It’s about income, not relative return. It’s about how we provide a stable level of income so that clients have confidence that year in, year out, they will continue to receive that income.

“One of the issues with DGFs is that there’s a continuum of different types that all promise roughly the same returns.”  

Adrian Mitchell, Aon

Multi-asset growth for us is about maximising growth. We want to be in the best growth assets at different points in the cycle. At the moment, we are quite heavily weighted to equities, but in a diversified return fund we have quite a low weighting to equities. It is all about finding diversified sources of return that react differently to different outcomes in the economic backdrop. That doesn’t mean you always have to have bonds, or you always have to have equities. It means that there’s a whole array of different asset classes out there that have different characteristics: renewable energy, availability-based infrastructure, economic infrastructure. It is any asset class in any region, so you have a huge opportunity set at your fingertips.

Martin: One of the things I’ve been talking about for many years is multi-asset illiquid debt or products where you can take account of renewables, infrastructure debt and infrastructure equity. They may be lower returning but they will suit a particular need. So it’s not just liquids, it’s illiquids. It’s not just growth, it could be cash. That’s why it is a philosophy and is a natural evolution of what people have been doing since time began. We have moved on from just investing in equities and gilts. We look to diversify them, which fundamentally is what we have been doing for the past 25 years.

Andrew: It is a neat description to say: “I either own the company or lend money to it or to the Government.” That’s thinking about it from the name of the asset perspective and we can diversify by name of asset into different parts of liquid or illiquid infrastructure, or whatever it might be. It’s equally important to see multi asset as the broadest spectrum in which we can utilise the continuum, which is safety at one end and risk at the other. Asset allocation along that continuum is the key to generating returns. Safety defined not by the name of the asset, but by the underlying risk the investor is taking by acquiring that asset at perhaps an overly expensive price.

Mitchell: What’s your safe asset for a cash + 4% benchmark? Andrew: It would be in the context of the investment horizon that I’m looking at. I hope that would be multi-year, so the safe asset would not be gilts. Currently, it would be in many areas of the equity market. German government bonds have been one of the best performing asset classes so far in 2018, with a negative real yield. So the investor is taking the supposedly rational decision of buying German government bonds to lock in a negative real investment return – that’s not a rational decision, it’s merely there to manage volatility. Thinking about the safety and risk spectrum is what multi-asset investing is all about. Whether it’s called equity or a bond is less important than what the underlying risks are. What is the nature of this exposure and what price am I being asked to pay for it?

Flood: That part is incredibly important. Many people assume that bonds are always low risk, but at different points in the cycle different asset classes can assume different risk profiles.

PI: Did multi-asset funds react to the volatility we saw in 2018 in the way that the marketing said they would?

Andrew: They performed by and large how you might have expected. Everybody’s down a bit given how things worked out.

Flood: The one elephant in the room is the target-return sector. A lot of people have gone for a large fund and those funds haven’t delivered what people expected.

Bernard Nelson: There is huge disappointment from our clients about multi-asset returns. A lot of the funds which have promised cash + 4% with low volatility have delivered low volatility, but have not delivered the return. It shouldn’t be a surprise that they are negative given the underlying markets, but in 2017 equities delivered double-digit returns while the average multi-asset fund returned low single figures. There are some exceptions, but a lot of them have significantly under-performed. When you look into it there’s a lot more going on within these multi-asset funds than a lot of investors realise in terms of protection and defensive strategies. So when you look at it overall, could they ever have delivered these returns?

Martin: Over the longer term a lot of these funds have failed to deliver what they promised. Clearly, for some people who sold equities and bought a DGF before equities did well the following year there is a regret risk, but you are doing it for risk reduction and diversification. So if you understand what you are doing it for then you will not be disappointed by an equity correction. For a lot of them, when equities are down they are down, but when there’s an upside they don’t seem to capture as much of it. There is the drag from the protection strategies and there is the cost of that, and obviously within a DGF there’s a whole range of different strategies.

Mitchell: There is no excuse in the benign environment that we have had for markets over the past eight or nine years for DGF investors not to have achieved cash + 4%-type returns. Many managers have shown a reckless conservatism in strategy. When we analyse how the returns have been generated, it’s mostly come from beta. So you are paying alpha-type fees for returns which are driven largely by beta.

Flood: The crux of it is that a lot of people have been scarred by the financial crisis and have tried to time the markets. That is an incredibly difficult thing to do. But when you look at the valuations of equities and bonds relative to their history, they look incredibly expensive. So you can understand why managers have sat back and said: “If you are running an absolute return-style strategy now is not the time to be invested.” The reality is a DGF is meant to be a diversified portfolio. We are not supposed to have a crystal ball, we are supposed to remain invested and to try and find the best areas in the market.

Mitchell: When markets looked expensive a lot of managers introduced relative-value strategies, going long or short in different markets, and it’s not obvious that a lot of them have the skill to deliver.

Martin: That is sometimes where we have perhaps seen more disappointment. Where managers are more dependent on skill, it’s a question of do they fundamentally have the skill sets and are there sufficient ideas given this market environment for them to generate the return?

Mitchell: It’s a tough challenge to add 400 basis points above cash without taking any market exposure. Martin: Sometimes I hear the argument that there’s not been enough volatility for our ideas to generate a return. When you do get the volatility, it’s always the wrong type of volatility.

Andrew: One of the key flaws in some of these products is in thinking that you can and should be able to control for volatility – you can’t. You can control for risk, but you can’t control for volatility because stuff happens and you didn’t know it was going to happen. The portfolio will react however the portfolio reacts to that. In the teeth of the period of volatility is exactly when they should be acting and that’s exactly when they are doing nothing. They should be using those volatile episodes to be opportunistic.

Flood: I disagree that you can’t control for volatility, you can use option strategies or you can reduce market exposure when volatility picks up. When the market starts moving down you sell whatever is going down. I’m not saying that’s a good idea, but it will help reduce volatility. When going into bear markets, we all know that if the market is down 5% it’s not a good idea to invest more money into the market. All of the analysis that we have done on a mix of high-risk and low-risk portfolios shows that as the market moves up, a move from your high-risk portfolio to your low-risk portfolio and vice versa would give you a worse outcome than just staying in the high-risk portfolio and starting to unwind when the market begins to fall. That is all about momentum.

Andrew: How are you defining risk in that context?

Flood: To be increasing your exposure to the market.

Andrew: It’s just a momentum strategy.

Flood: Momentum works.

Andrew: That’s true. Stop losses are also a momentum strategy, because you are saying: “I don’t want to be an investor anymore because I’m losing money. I am therefore going to continue to lose money.” You are assuming you know something about the short-run dynamic price.

Flood: No you are not. What you are saying is: “We don’t know anything. We don’t have a crystal ball.” When a share price goes down there is more value in that share price, but that doesn’t mean it’s time to start buying that share. The market is telling us that it is less in favour and perhaps the market wins in the short term.

Andrew: It means it’s X% cheaper than it was before it went down.

Flood: Exactly. But you might be 50% too high on your valuation already.

Andrew: Absolutely, which is why it’s important to have some kind of coherence around your investment process to know the difference between a good price and a bad one.

Flood: Everything is relevant. That’s my point. If you are running absolute-return money you must be cognisant of your client’s objective, not just the value relative to the market. It is different if you are running against a relative benchmark.

Andrew: Everything is relative to the discount rate.

Flood: On a 25 times multiple it sounds expensive, but it could have fantastic growth ahead of it, so could still be a value share. That is a hard thing to discern.

Martin: We spend a lot of time thinking through the risk budgeting and how we set approaches because we have a balance sheet to protect and long-term liabilities to manage. When allocating monies I don’t think of percentages, I allocate to risk. Multi asset can be part of risk allocation and risk budgeting.

“There is huge disappointment from our clients about multi-asset returns.”

Bernard Nelson, JLT Employee Benefits

You don’t put all your eggs in one basket in terms of a DGF; you weave it into a more holistic portfolio. I don’t believe that you should stick your entire growth allocation budget in a DGF. I know some fund managers love that and for some people for governance it might be an appropriate thing to do, but there are other things that you can do. A DFG is a component; it’s not the entire story.

You have got to be careful with whom you partner up with because there are so many different funds. It is trying to understand what they are doing, whether it is relative value or equity beta. So as long as you are partnering with someone who is aligned with your long-term goals and behaves as expected then it is not an issue. Where a lot of unhappiness comes from is a mismatch of expectations where there’s not a true understanding from the investor. It is the fault of the fund manager and the consultants, who are not match-making sufficiently.

Andrew: It feels like we, as an industry, have been pretty rubbish at aligning what we deliver to what the client needs. That feels like it is softening and that there’s a much more constructive dialogue taking place on what we can do for our clients. The only way to improve that is to ask them what they want us to deliver. Has that got a little bit better or is there still a long way to go?

Martin: It is better. It just depends who you deal with. There are some people who just have a product to sell. In the UK many investors will partner with consultants and most consultants will have a decent understanding of those products. So it’s just as much for the consultant as the fund manager to play matchmaker and marry up the right type of client with the right type of DGF. It is also reliant upon the investor, the trustee or the chief investment officer to spend the time to understand the product in its broader sense. You will never understand all the various strategies, so a 20-minute beauty parade will never get you that information.

PI: So how do you pick the right fund?

Andrew: Part of the challenge of the absolute return product is how to discern what a client’s future return profile looks like. You have people showing you charts on what it looked like in the past and it started at the bottom left and finished at the top right and sailed through a financial crisis. Those characteristics were delivered during a unique time for bond yields and asset prices. The repeatability of that is what we need to shine a light on, which means how do we best understand the process? How do we best understand the decision-making, the repeatability and the coherence of that? The more complicated some of these strategies are the tougher it is to discover how the fund manager determines, for example, that Philippines versus Taiwan is going to be the trade that you need to have.

Mitchell: When you are looking at a DGF the first few questions you need to ask yourself are: “What are the return drivers? Is this more alpha or more beta driven? If it’s more beta driven, then am I paying a fee which is commensurate with that?” There are passive approaches. They provide a strategic weight to many of the beta drivers which will provide performance over time. If you want to go down the active route does the manager have the skill set? Is he best at picking bonds/equities/alternatives? An open architecture approach might be better for lots of people.

Martin: No skill set lasts forever. Every active manager has a certain amount of luck as well as skill. A lot of people have a way of playing the market and they can do that successfully for five or 15 years, but the market will move away from them. It is understanding that if you are partnered with a DGF then markets will evolve and they may not evolve with them.

Mitchell: Or if you are successful you grow your fund until it’s too large and then you find it more difficult to add value.

Flood: There is a significant lack of research on smaller funds. Most people tend to go with safety in numbers as the large funds get bigger. It’s a real challenge when you are running very large amounts of money to turn the ship around.

Nelson: One of the problems is that all these funds with different styles will have something like a cash + 4% benchmark. A cash + benchmark is not investable. It’s a bit meaningless; some years it’s easy to beat and in others it’s more difficult. In some of the conversations I have had recently, I have asked where this cash + 4% is going to come from given the current asset mix. The answer is that it is “a long-term target”. What they are saying is that when there is a fall they are going to buy at the bottom and then in five years’ time we might have hit this target. The problem is we may understand that cash + 4% is just a line in the sand, but our clients start expecting absolute returns year in, year out. They don’t read the extra bit which is that it’s over a three or five-year period. So when you have a negative year they get upset. They also get upset when they don’t deliver in the good years. We have got ourselves into quite a horrible mess in terms of return expectations.

“There is no magic formula or magic source that we can provide that will deliver year in, year out to precisely the specifications that the clients are after.”

Steven Andrew, M&G Investments

Martin: Fund managers, multi managers and the JLTs of this world make things better, but there’s only so much time they can spend on these things.

Sometimes it’s an outcome driven approach and many people have tried to explain the innards too much. If you tried to understand one of the large managers’ underlying strategy with the derivative implementation I would give up, especially if you are a lay trustee.

It’s more about understanding the outcome. The same issue happened in terms of liability driven investment (LDI). When it first came up everyone focused on the swap implementation and the collateral management and they got lost in the weeds. They tried to forget that this is just a complicated bond that’s trying to produce an outcome to protect you against changes in yield movements.

How does it help achieve my goals? If you focus on that it can be a relatively simple and straightforward conversation that most people can understand. Then you trust the managers to have the process and skill set to achieve the outcome which they have alluded to. The skill is then seeing if they are performing in-line with expectations given the outcome they said they would deliver. I don’t need to understand every single trade that they do, just are they achieving what they said they would? If they are not, is it bad luck or was the skill set or process not quite right in the first place?

Mitchell: One of the reasons behind the growth in DGFs is the low governance aspect. One of the issues with DGFs is that there’s a continuum of different types that all promise roughly the same returns. Trustees anchor to that return, if that’s what they have been promised, but DGFs are not all equally likely to produce that return.

Martin: It depends on the consultants involved with their research or the fund manager in their marketing to explain that. They should be able to do that in simple fashions, amongst what I call these 100 shades of grey.

Mitchell: They offer the low governance solution that clients are looking for, but they are a one-size-fits-all product and pension schemes change over time. They de-risk, for example. I work in a fiduciary business and we can build an open architecture multi-asset fund which is bespoke for a particular client and adapts with their needs all the way to buy-out, which increasingly many of our clients are heading towards. Strategy will vary over time and we can change the risk profile. It still gives you that low governance solution but it is bespoke as opposed to being a one-size-fits-all product.

Andrew: We have to be honest and open about there not being a magic process. There is no magic formula or magic source that we can provide that will deliver year in, year out to precisely the specifications that the clients are after. We go in with our hands up and say: “What we pledge to you is that we have carefully thought about whether this should deliver over time what we aspire to and we pledge to constantly evaluate this and have a partnership with you.” So when the inevitable bad year comes along the client can completely understand where it came from, there’s no mystery. The bad year came along because the price of something fell and you were over-exposed to it.

It wasn’t that you made a mistake because a mistake would be behaving inconsistently with how you told them that you were going to behave. Clients are much more likely to stick with you understanding that process than if they only bought it because it was going up.

We are human beings and we are all going to think up great reasons to buy something that looks successful and everybody else is buying it. The sales person will also come up with four or five fabulous reasons and the client doesn’t say that they don’t understand the process, but it seems to go up so they go with it. That’s dangerous.

Martin: These days the tool kits available for fund managers are much broader and many of them are not taking advantage of this. With websites and apps it would not be that hard for fund managers to produce a 20-minute video to watch on an iPhone. There are more tool kits out there than there were 20 years ago.

Andrew: It’s not been in the nature of fund managers because there’s a human tendency to be defensive about how you do these things. Maybe sometimes you don’t genuinely believe it works yourself. You just think: “Oh, I got a bit lucky there.”

Nelson: What frustrates me is when you are talking to someone about benchmarks and you ask how they would invest differently if it was CPI + rather than cash + and you get a 10-minute reply. They cling to the fact that CPI + is different to cash +. CPI + 5% on paper is now more than cash, so you are building in an extra 1% or 2%, but when you look at the portfolio they are not managing it any more riskier than a portfolio trying to get cash + 4%. In an absolute sense, they are trying to get 4.5% to 5% and they are trying to get 6% to 7% but they are invested in the same thing.

Mitchell: It’s meaningless. For fiduciary clients, we put our growth portfolios alongside LDI. The investment objective is led by their funding ratio, how much return they are looking to achieve, so we have a range of different investment objectives for the growth portfolio from cash + 0.5% to cash + 4%. Every portfolio is different; you have different strategies for every fund. The efficient portfolio you build at every level of expected return is different.

Martin: This is part of a bigger holistic portfolio. For some people it might be their only investment but for a lot of people it is part of a wider mix. A lot of trustees need to question if they are meeting their goals. Do they have sufficient LDI to control interest rate and inflation movements? Are they growing the assets sufficiently, i.e. not to increase the deficit and to close it in a risk-controlled fashion?

In the wider sense you are doing this because you expect to achieve Libor + 4% over the longer term. If it’s not achieving that as part of a wider mix that is when you rely on the consultant to do the further digging and try to give an explanation. It is hard to admit, not that you have made a mistake, that it’s not working and better information has come through and we now understand it better.

I get monthly reports from all our managers and strategies and then I take a view as to whether or not they are behaving in-line with outcomes and expectations. I also monitor what happens in equity markets and spreads, so you build a model over time of how that manager was behaving and if the ideas and strategies which they are employing are working or not.

Mitchell: Pension schemes need to understand that even if their DGF promises half the risk of equities you still have volatility of 8%. A negative return of 5% or 10% is not a particularly unusual outcome for this level of risk. Martin: Trustees have got used to a low volatility environment and we should expect 5%, not every five minutes but on a regular basis. Volatility used to be like this a long time ago, but people have just got used to markets rising in a fairly straight line, whether it be bonds or equities, and it seems to have been easy to make money.

Andrew: Increasingly it’s arithmetically impossible to achieve that volatility outcome, simply because of the nature of the bond markets and the nature of the destination to which we have arrived of low global bond yields, which tells you a lot about potential diversification amid periods of volatility. So the world is more volatile, you can’t pretend that it isn’t. You have to have that appreciation.

Martin: We have all seen the “magic waterfall” charts regarding risk contributions from equity, credit risk etc – which is additive and then there is the “magic” of diversification, which suddenly “halves” the risk number. It is worthwhile considering the level of faith and reliance that the investor should place that this diversification will in fact arise when you truly need it to. Diversification works in most market conditions, but it would perhaps be unwise to place over reliance on market-related diversification in the scenario when correlations all go to one.

Flood: If you are being truly active then that diversification should work. If you are reliant on bond and equity diversification then you are not looking far or wide enough to get diversification.

PI: Some of you have said that many of these funds have not performed as well as hoped, so has there been a reduction in fees?

Nelson: They have started coming down a little bit. A DGF multi asset-type fund with 60 to 70 basis points is now perhaps more typical to be 50 to 60 basis points. The era of low nominal returns is putting pressure on fees, certainly in equity markets.

Mitchell: They are still expensive for what’s been driving their returns over the past few years.

Martin: When I do a long-term analysis of the funds that we have invested in, I tend to think more in terms of the pounds, shillings and pence that we put in. What is it now? What should it be? Then I look at the monetary difference. Sometimes percentages can be misleading. Actually thinking about the monetary gain or loss is sometimes much more instructive, and you can also take account of the fees that you have paid.

Andrew: From a fund manager perspective, we need to make sure that we are as cost-efficient as we possibly can be in terms of our implementation. So where an underlying exposure or a basket of underlying exposures can build the same risk shape to the portfolio, why would you own another fund and pay another layer of fees on top of that? You don’t need to go out there and create a fund of funds. You can deliver the same risk shape to a portfolio in a far more cost-effective fashion.

Martin: It’s not just the headline fees of additional management charges, there are an awful lot of protective strategies employed and some managers need to be smarter about how they execute those. Sometimes use blunter instruments where they could be more granular and achieve the same outcome but for less cost or less drag. It won’t save the return, but in a lower return environment you should look to those types of approaches and see if you can achieve implementation savings. It is beholden on us as investors and consultants to enquire about that.

PI: Are alternatives finding their way to these funds?

Andrew: You need to be careful what you are saying they are an alternative to? You also have to understand what the fundamental drivers of the return are.

One of the rewards of being a patient long-term investor is that you are being paid for locking money away. You are receiving an illiquidity premium, but you must only own these structures if they don’t hamper the overall delivery of the portfolio’s return. I place quite a high importance on being able to dynamically shift my asset allocation when we receive a knock on the door from the market saying: “Are you interested in lots of these assets considerably more cheaply?”

I don’t want to be a forced seller of anything. I don’t want to be in a small club of people owning something if I’m then going to call them asking: “Do you want mine because I need to buy Japanese equities that are suddenly so much cheaper and better for my client.” So as long as we are clear on the nature of that ownership and on what the driver of the investment is in the long run then there’s a place for that in the portfolio, but we need to be mindful that often they are illiquid.

The broadening out of this area has been assisted by lower bond yields, which have attracted those who would have customarily found the risk-return pay-off they were after in the bond space. So some illiquid strategies don’t have to offer quite such an enhanced reward for the lack of liquidity.

Mitchell: One of the reasons they don’t suit many DGFs is because they have locked themselves into offering daily liquidity.

Martin: They need to have an alignment. If you are providing a daily-dealt product then there is a requirement to invest in daily-dealt liquid investments.

Flood: We have had to up 35% of our portfolio in alternatives. A vast majority of these illiquid investments are now held within a more liquid format, such as in property funds. Post-financial crisis we have had infrastructure and renewables, which have been created in liquid format offering exposure to the underlying assets. You have to understand what you own and why you own it. There are great diversifiers, such as the renewable energy sector, as we saw in the past couple of sell-offs in bond and equity markets.

“Owning the right asset classes at the right time is the whole point of multi asset.”

Paul Flood, Newton Investment Management

Mitchell: It would be interesting to see how the listed versions of alternatives perform in a steep draw down in equity markets.

Flood: It depends on which asset class. Infrastructure in 2008 was down 15%, but by the end of the financial year its total returns were up 5%. In the short term it can be highly correlated because everybody sells everything. It’s the same with gold and bonds. We see a lot of multi-asset investors today struggling to generate a return, struggling to get sufficient income and they may have 30% to 40% of the portfolio in high-yield bonds. That is an incredibly risky place to be.

Andrew: But was the alternative nature of the risk with infrastructure the cause of the rebound into positive territory that year or was it simply that it got too cheap, was a good investment and had an underlying investment stream that people could see?

Flood: The alternative part about that is it’s an alternative to economically sensitive bonds and equities. You are trying to find differentiated return profiles to equities and bonds. Currencies can be one of the best diversifiers, but are one of the hardest markets to predict. Andrew: What the client is really after is its lack of correlation.

Martin: To me alternatives can be within some of the underlying funds but as an asset manager I’ve got to think more broadly than that. I want exposure to different forms of return, so we will invest in stuff which is less trod, perhaps more complex or it’s just that people haven’t spent that much time on them. So we’ll do direct lending or infrastructure or real estate.

It is a question of going back to your philosophy. It’s about looking at your outcomes, your time horizons, your profile, etc. If I can lock stuff up in lesser liquid investments, which can give me a sufficient return stream to meet my needs, then you should have a proportion of monies in that and risk control it.

“Sometimes I hear the argument that there’s not been enough volatility for our ideas to generate a return. When you do get the volatility, it’s always the wrong type of volatility.”

Peter Martin, Medical Defence Union

Mitchell: Most assets though are ultimately pro-cyclical and all go down together during equity sell-offs. What people are really looking for when talking about diversification or alternatives is asset classes which will ideally go up when equity markets fall or at least will retain their value.

Andrew: Bonds used to do that.

Mitchell: The problem with these types of asset classes is that they normally have a cost of carry associated with them, which from a behavioural point of view makes them uncomfortable to hold in portfolios. There are one or two purely uncorrelated assets, catastrophe bonds might be an example, which are not associated with a financial cycle. So it’s difficult to find true diversifiers and we spend an awful lot of time looking for them.

Martin: There are specialist vehicles out there which are less liquid, less tradeable and you accept that you lock your monies in over a period of time. To me that’s multi-asset investing. It is not just the DGF products; it’s the wider philosophy of what bits are out there. Every year we look at the main asset classes and other bits to ask what are the prospective returns? What’s rich? What is not as rich?

Flood: On the diversifying aspect, it’s always about trying to find things that have a low sensitivity to the economic cycle. The rest of your portfolio – investment-grade bonds, equities or property – is sensitive to whether or not we are going through a recession. So you need things that have contractual cash-flows that aren’t sensitive, that don’t move around just because we are going through a recession. That is ultimately what we are trying to do in the alternative space.

PI: How is multi asset evolving?

Flood: We are always trying to evolve to meet client needs. We launched the Multi-Asset Income Fund three and a half years ago because there’s more and more demand as defined benefit (DB) schemes go into drawdown and need something that can pay a sustainable income. It will always be about what clients are looking for and if we can create a solution that meets their requirements. It will continue to evolve as the backdrop evolves.

Andrew: The challenge is how we – fund provider, intermediary and client – successfully navigate the rising bond yield environment. By success I don’t mean delivering what the client is after, but managing expectations around volatility. We are in an era where it is harder to get genuine diversification from volatility.

We are still observing a pessimistic mind-set on the part of the market. That doesn’t speak of a market that fears what happens when growth gets too strong or when interest rates need to go a little higher. We are still not encountering those dialogues yet. Before we do, it’s good to give our clients an expectation of the volatility that may ensue as the equity valuations that look super when your bond yield is 1% then look more challenging if it is 3%. The breadth of plausible avenues down which the market may want to travel is still too narrow – it needs to be pushed out.

Flood: If bond yields move up to 4% or 5% that looks like a great opportunity to get bonds back into the portfolio.

Andrew: Absolutely. When others are rushing out of liquid strategies, we can say: “We are over here. The price is falling and we will take them.” That’s the benefit of being a patient investor.

Mitchell: For me the evolution of multi-asset investing will see us move away from a growth “product” towards building a portfolio which is ultimately trying to outperform liabilities over time. Pension schemes are de-risking. They are getting closer to the end game, be that some form of self-sufficiency or, increasingly, buy-out. A one-stop-shop product makes less sense in that environment. DGFs were a good first step to delegation, with low governance and implemented asset allocation decisions, but increasingly pension schemes want to delegate liability management and the evolution of their strategy as well.

Martin: We have not really talked about defined contribution (DC). With freedom and choice people will need to diversify their investments, especially in drawdown. DGFs will naturally form part of that as a low governance product. Just as we talk about DB schemes in terms of information and provision, in the DC space there is a greater and even simpler requirement through iPhones and YouTube clips because the reality is that people won’t pay for that much advice.

Flood: At the moment there’s nobody that’s looking after the governance post-retirement.

Martin: As a trustee of a DC scheme you are there to do what you can in the context of running that scheme, but outside of that it’s a bit more challenging. Multi-asset investing has a place, but the product sets need to evolve. There’s got to be more clarity in terms of their style, relative value, equity allocation and targets. There needs to be simpler ways of grading these investments to get an indication of outcome and risk. Libor + 2% gives me an expectation of drawdowns and the type of returns needed, but if I choose Libor + 5% then I know that I have a fairly large drawdown aspect on a regular basis. There’s not a precision to these things but they are a way of communicating expectations of long-term returns, risk and volatility in different shades and drawdowns.

Nelson: As we mentioned, the DC market is much more important; what you might see are more environmental, social and governance (ESG)-friendly products. It exists in equity funds, but it doesn’t really exist yet for multi-asset funds. If multi asset is going to be the fund of choice for investors who take their transfer values and want to manage their retirement pot, this is going to become more important.

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