The value of portfolio diversification during times of financial market collapse
Asset managers remain committed to asset class diversification as the main driver of returns in long term investment portfolios. And they continue to back multi-asset solutions to achieve your client’s financial outcomes despite the lacklustre five-year return from this category of unit trust. A recent data sheet published by Morningstar suggests just 2,5% average annual return from diversified (multi-asset) unit trusts over the five years to end-April 2020. Jako de Jager, Head of Retail Portfolio Solutions at Momentum Investments, shared his view on ‘how diversified solutions protect your client’s through crisis’ during the asset manager’s 13 May 2020 ‘Outcomes Matter’ webinar.
The rationale behind splitting an investor’s capital between bonds, cash, equities, and listed properties is that each of these asset classes performs differently during a crisis. Asset managers have freedom to determine percentages allocated to asset classes within their fund mandates; but retirement fund managers must also comply with Regulation 28 of the Pension Funds Act to limit retirement savers’ exposures to riskier assets.
Looming risks to domestic outlook
As we entered 2020, prior to the confirmation of the coronavirus pandemic, Momentum Investments advocated a neutral weighting to cash; was overweight domestic equities; and cautious about local property. “We were also overweight offshore compared to local asset classes,” said De Jager. He mentioned various risks to the domestic outlook including a poor fiscal outlook and looming ratings agency downgrade.
Would this view stand up against the COVID-19 onslaught and subsequent decision by countries to enforce national lockdowns? “Growth asset classes sold off aggressively worldwide, and it did not matter if you were looking at emerging markets or developed markets, they were exposed to the same risk,” said De Jager. He added that the extent and pace of the equity market drawdown was insane. Major US Indices moved from bull market territory to bear market territory in just 16 trading days. the quickest reversal of any bear market correction, ever.
Huge outflows from emerging market portfolios placed pressure on all asset classes, there was simply nowhere for investors to hide. We have already mentioned local equities, which had fallen 36% from their January 2020 highs to their 19 March low; bond yields moved aggressively higher due to the Moody’s downgrade, causing a big slide in capital values; and the heart was ripped out of domestic property. The result through Q1 2020 was a 27% decline in equities; 40% fall in domestic property; and declines in both nominal and inflation-linked bonds. There was some protection for offshore equities and bonds due to the rand’s severe depreciation against the dollar over the period.
Do not make knee-jerk decisions
Fund managers responded to the financial market fallout by moving money out of growth assets into defensive assets, such as bonds and cash. The challenge facing asset managers is how to rebalance their multi-asset portfolios for the potentially lengthy ‘recovering from pandemic’ scenario.
De Jager was the latest in a long line of investment professionals to warn investors against knee-jerk reactions. “It is easy for clients, when looking at asset class returns for Q1 2020, to feel the urge to do something; but timing the market is almost impossible,” he said. An investor who sold all or part of an equity portfolio at the end of March would have missed out on the ‘bounce’ that has occurred since. By 19 May the JSE had climbed 37% from its low, to close at 51950, for a year-to-date contraction of 12%.
Financial advisers should not forget the reason for placing client’s funds in diversified or multi-asset portfolios to begin with. You did so to allow the investment professionals to manage those funds and determine the correct ‘mix’ of assets to deliver specific investment outcomes over the long term. This means relying on the teams of specialists at the likes of Momentum Investments to make the necessary adjustments to weather economic storms.
Actions to limit the downside
De Jager described some of the steps taken by Momentum since the crisis, including selectively reducing domestic property exposures; allocating towards shares that have strong balance sheets and clearer earnings ‘visibility’; repatriating some offshore assets to avail of an oversold rand position; incorporating a currency hedge to protect investors should the rand strengthen significantly; and allowed some of its managers to maintain slightly higher cash balances.
Part of your assurance to clients who are concerned about their investment performance should be that the professionals are already managing their money prudently, in line with the long term return objectives that you agreed with them when putting their financial plans in place. They do not need to do anything – the fund managers will make changes on their behalf. “It is important to stay the course,” concluded De Jager. “Because missing out on the upside, whether it is 15, 20, or 25% is detrimental to your long term investment plan”.
Writer’s thoughts:
South Africa’s multi-asset unit trust funds have come in for strong criticism from financial advisers and investors in recent years. These funds merely reflect the lacklustre performance across their diversified portfolios, perhaps exacerbated by a tendency for higher relative weightings to domestic equities. We would love to hear your views on multi-asset fund performance and whether you still consider them useful in delivering on client’s long term financial objectives? Please comment below, interact with us on Twitter at @fanews_online or email me us your thoughts editor@fanews.co.za.
