With the Nasdaq and other markets with a high weighting in technology stocks halving since their pea...
With the Nasdaq and other markets with a high weighting in technology stocks halving since their peak last March, it seems an appropriate time to revisit the debate on whether investing in stock markets is best seen from a geographic or thematic standpoint.
There always have been, and always will be, underlying themes for investors to latch on to, although it was not until last year that the industry's marketing machine moved into overdrive in its promotion of sector funds.
At Premier, we have been managing unit trusts that invest in other collective investment schemes since 1995. While investing in different styles of funds is an important part of our process, we have not as yet included a thematic fund investing solely in technology or healthcare, for example in any of our portfolios. This is not because we don't believe in the long-term merits of information technology or the demographic arguments for investing in healthcare or financial services, but just that we prefer to access these themes and trends from a geographical standpoint.
The Premier Selector Growth Trust sits in the Balanced Managed sector and, as such, has a maximum 85% exposure to equities as per the guidelines set down by Autif. The geographical composition of this sector is typically 55% UK equities, 30% international equities, with the balance of 15% in fixed interest securities and cash.
Our own asset allocation is not dissimilar to the benchmark although we do allow ourselves to over or underweight a region by up to 5% or 2.5% in the case of some of the smaller and emerging equity markets. While this strategy gives us a degree of flexibility, it also ensures that investors and their advisers are aware of the type of fund and assets they are buying.
The Premier Selector Growth Trust is probably best described as a balanced portfolio with a bias towards growth. Over the last 12 months, we have moved from an underweight position of around 49 % in UK equities to a more neutral 55 % today. In Europe, we remain overweight, although our exposure has been cut from over 17% to 13% since last March. In the US, we have been reducing our exposure and now have less than 4% of our assets invested there compared with 7% for our peer group. Elsewhere we remain overweight in the Far East and Emerging Markets, although taken together, these areas make up only 12 % of the total portfolio.
The way world stock markets have behaved over the last two years, it is easy to see why so many investors have been so keen to scramble aboard the thematic bandwagon. During that time, it hasn't really mattered where you have been invested from a geographical standpoint. The fact is that growth stocks, technology in particular, massively outperformed the index from October 1999 until March last year, since when it has been 'value' more or less all the way.
To satisfy this demand, we have seen numerous new launches in the technology sector as well as a smattering of issues in areas such as healthcare, financials and resources.
There have also been groups who have gone down the 'style' route, offering funds that invest in concentrated portfolios of growth and value stocks. While we welcome this extra choice, we will continue to compare these funds with those existing trusts that have a similar investment brief.
There are well over 500 funds that invest in UK equities and while Autif has subdivided these into three categories (All Companies, Equity Income and Smaller Companies), there will clearly be a huge divergence of investment style in such a large universe.
In order to achieve the right balance in our portfolio, we take both a quantitative and qualitative approach to trust selection. As mentioned above, getting your geographical asset allocation right is no longer sufficient it is equally important to have a good grasp of the type of fund in which you are investing. It is also important to ensure that other funds in the portfolio are not investing in the same type of stocks.
To achieve this, we look at a fund's correlation with its peer group. While a low figure will not necessarily mean that we will not invest in the fund, if this is the case we will give the underlying portfolio particularly close attention to ensure we are comfortable with the risks being taken.
The other indicator we have given a lot of credence to over the years is the Sharpe Ratio, which basically shows us a fund's return for a given level of risk. The higher the figure the better, although this measure is only of any real use when comparing similar types of fund and care needs to be taken when looking at a sector such as the UK All companies, which comprises over 300 trusts.
While quantitative analysis is undoubtedly helpful in portfolio construction, the way equity markets have behaved over the last couple of years has meant that a qualitative standpoint has become equally, if not more important.
In the UK Smaller Companies sector, we hold two funds. Our core holding is Aberforth UK Smaller Companies and, while one might have questioned the wisdom of such a decision 12 months ago, the fund's lack of exposure to technology and other highly rated growth stocks has pushed the fund to the top of its sector over the last year.
Our other holding in this sector is Edinburgh UK Smaller Companies, which, due to its relatively high technology weighting has produced something of a roller coaster ride. However, in spite of the fund's slump in fortunes over the last 12 months, the unit price has still more or less doubled since March 1999.
Taken together, these funds give us an excellent balance in UK Smaller Companies and highlight the importance of knowing how a fund is likely to perform in different market conditions.
A closer look at our other UK holdings paints a similar, albeit not quite as dramatic, picture, with funds such as Fleming Select UK Income moving from near the bottom to the top of its sector over the last 12 months. Those with more of a growth bias, such as Liontrust First Growth, have moved in the opposite direction.
However, what is important is that both funds, with their very different styles, have comfortably outperformed their peer group and the index over the last two years, a period that could not have produced more conflicting market conditions.
Finally, a word on indexing and the danger of relying on tracker or quasi-tracking funds to enhance performance. The technology and telecoms sector massively outperformed the market as a whole between October 1999 and March 2000 resulting in many of the world's stock markets having an excessive weighting in growth stocks. However, this situation is now being reversed with the sharp falls in many of the world's highest capitalised stocks pushing markets lower.
It is somewhat ironic that there was a huge increase in demand for growth (which by their very nature, included index funds) at the beginning of last year, at just the time when 'value', which had been written off as an asset class, started to outperform.
However, those who were uncomfortable with their portfolio being exposed to an ever decreasing number of sectors and individual stocks and were prepared to move away from the index, have been well rewarded over the last year or so.
In such challenging market conditions, our strategy will be to continue to provide a portfolio that is well diversified geographically, while also providing exposure to a broad range of themes, not all of which will be found in the current edition of Investment Vogue.
David Hambidge is director of pooled funds at Premier Fund Managers
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