Swift market manoeuvring, using cash kept to hand, and agile ‘volatility trading’ have helped sustain the portfolio’s solid upward trajectory.
The past four months have seen our long-term growth portfolio stage a healthy recovery. At the close of January this year the portfolio fell in value by 3.8%, largely because of a sharp dip in global markets between October and December. But markets have rebounded since, and the portfolio returned a respectable 4.2% between February and the end of May.
That return lagged those from the US and other major global indices. Data from FE Analytics shows that the US market produced a return on sterling of 5.6% in those four months.
Does that mean the portfolio has been too cautiously positioned? Manager Mike Deverell of wealth manager Equilibrium doesn’t think so. He says: “Look at how much some markets have fluctuated over that time.” The S&P 500 index fell by more than 5% from its peak during that period.
Deverell’s outlook on markets has shifted several times. At the end of last year, he says, “we moved from cautious to feeling that markets were looking a lot better value”. As a result, he topped up equities when markets were low. But his view has changed again: “Markets have now risen back up towards previous peaks, so we are feeling a bit less positive.”
His revised outlook is reflected in a recent portfolio trade. Back in December Deverell added the L&G UK 100 Index tracker to the portfolio after the index plunged to 6750 points, having exceeded 7500 at the start of October. On the back of three months of solid growth, he sold the holding on 10 April. He says: “This is part of what we call ‘volatility trading’ – essentially buying an index tracker when markets dip and selling when they recover.” The trade yielded a profit of £5,669 after dealing costs.
Such trading is a key part of Deverell’s approach to running the portfolio. He says: “We are active and prepared to buy and sell to bank gains. We like to keep cash on the side to allow us to act when we need to.” Cash presently accounts for about 5% of the portfolio.
Note of caution
Deverell’s current “cautious optimism” over markets is reflected in his holdings overall. His holding in US equities (via a Vanguard tracker), for example, represents roughly 6.4% of the portfolio at a time when US stocks account for around 50% of the global total. “There’s a lot of risk out there and the US is still expensive,” he says. He argues that holding US equities in line with the benchmark would entail too much country-specific risk.
He says that investment outcomes in Japan show the folly of trying to stick to the benchmark: “In 1990 Japan was the biggest [element of the global benchmark], but now it is relatively small.” He is not suggesting the US will go the way of Japan. However, he notes: “Benchmarks are backward-looking. We need to think about what is happening now and [will happen] in the future.”
Continuing with the US-Japan comparison, Deverell also points out that the US market is on a 21 times price-to-earnings ratio, while Japan is on 13 times. “The market in Japan is quite a lot cheaper. I don’t really see why US companies as a whole will keep growing faster than Japanese firms.” To capture this growth, he holds Baillie Gifford Japan. He says: “The fund is full of companies with quite high earnings growth.” Deverell notes that Japan has suffered in the trade war this year, but also that his Japan holding returned more than 7% over the past four months.
Some of the worst performers in his portfolio are alternative assets. These can be seen as non-correlating assets that lower risk when included in a portfolio. However, not all Deverell’s alternative choices have done well recently. Absolute return funds Old Mutual GEAR and Invesco GTR have lost money since purchase, with the former the biggest loser, in percentage terms, over the past four months.
Old Mutual, Deverell says, has struggled in an environment where markets have changed direction quickly . He adds: “Alternatives are held to balance equity holdings. However, at the moment it is difficult to make a case for property, while fixed income has become less uncorrelated with equities.”
Deverell is looking to reduce his fixed-income holdings, which account for a sizeable element of the total. He believes the market is premature in anticipating rate cuts, which generally lift bond prices. “I’m slightly worried that markets are getting ahead of themselves. The Federal Reserve is not yet ready [to cut rates].”
With bonds having performed strongly recently, in expectation of monetary policy easing, Deverell thinks it may be time to reduce his holdings, especially if the US rate cuts never arrive.
The best performer in the portfolio has been Lindsell Train UK Equity – since purchase (up 31%) and over the past four months (15%).
“It has done phenomenally well. We are surprised how well it has done,” says Deverell. He credits its strong performance to the portfolio’s exposure to emerging and Asian markets. While the fund holds UK-listed firms, many of these enjoy earnings from overseas. “Lindsell Train is exposed to Asian growth through companies that sell products in Asia.”
The fund, Deverell says, holds high-quality firms that are big names but are also exposed to high-growth markets in Asia. Consequently, he adds: “You get the best of both worlds. It tends to do well in both down and up markets.”
Lindsell Train is run by the highly regarded manager Nick Train. Has the recent fall from grace of value investor Neil Woodford rung alarm bells for Deverell about having a fund run by a star fund manager in his portfolio? He says: “No. The key I suppose is fund governance concerns. With Lindsell Train, if Nick Train started doing something different, that would be easy to spot. He has a clear process and it hasn’t changed since we bought the fund.”
The second-best performer over the past four months is BlackRock European Dynamic. European equity markets have performed relatively poorly, but this fund has delivered respectable returns. Deverell puts this down to its manager’s stockpicking ability.
“You’ve got to be active in Europe,” he says. “If the only way to access European markets was a tracker, I wouldn’t buy it.” He adds that a whole host of problems weighing on Europe are slowing growth, but that it still has high-quality companies. “You need a manager that can allocate away from the benchmark.” However, he remains underweight in Europe.
Portfolio performance picks up
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Notes: Net value includes £10 broker fee. Date of inception of portfolio is 1 April 2017. Source: Equilibrium, as at 31 May 2019.