Being a fund manager is hard, particularly for those in the global sector, where beating the MSCI ACWI has proven to be an almost insurmountable challenge.

In the FO Equity International sector, where Dmitry Solomakhin’s £1bn Fidelity FAST Global fund sits, just 13% of the peer group has managed to beat the benchmark index over the past decade.

Yet his fund has been one of the rare exceptions, up 270.5% over 10 years, around 60 percentage points ahead of the index. The figure is even more pronounced since the fund’s launch in 2013, as the below chart shows.

Performance of fund vs sector and indices since launch

Source: FE Analytics

This performance is even more impressive when considering his contrarian investment style, which is has been out of favour for most of the period. To show this, we included the MSCI ACWI Value index in the chart above, which has lagged the broader benchmark by some 73 percentage points.

Despite this, he admits that investors who believe the market is right should avoid his fund and stick with an exchange-traded fund (ETF).

Below, he also tells Trustnet why new fund managers are “doomed from a statistical perspective”, how high risk-adjusted returns with low volatility is “science fiction” and why he learned and would change absolutely nothing from his best and worst years.

What is your process?

This is a long/short fund. The long book is a book of blow-ups. What I look for is businesses where the market thinks the model is broken, whether that be operational issues, financial issues or corporate governance issues. They trade at very stressed levels.

Most of the time the market is right. In 19 out of 20 cases if the market says the company is broken, then it is broken. I am trying to find the cases where I think the franchise is good and if the turnaround works it becomes a normal business again.

The short book is currently skewed towards bubble names.

Why should investors pick your fund?

If you look at my peer group, the market has beaten around 87% of the group. So basically if you are a global fund manager just starting in the job you are doomed from a statistical point of view.

So my advice to investors would be not to go for my fund necessarily, but you should go for an outlier. It could be growth, quality or contrarian. Something that gives you a chance of not being in the 87% [of underperformers].

How risky is your fund versus peers?

The long book will be quite volatile and risky just by the nature of the positions that I take. If you think about it, I don’t own anything that goes up when the benchmark does. If it goes up at the same time as the benchmark it is not contrarian – it is a good quality company.

The short book is used solely for alpha generation. It is not used to reduce risk, hedge or pair trades. Every position is a stock-specific view. You can argue that leverage increases the risk over the short term.

The reason I do this is because if you do things the normal way you get normal results. You can be low volatility but you won’t beat the benchmark.

Everyone says you want to have high risk-adjusted returns with low volatility but that is science fiction. It sounds good to clients but does not exist in real life, unfortunately. You have to sacrifice something somewhere.

What have been your best and worst calls in the past year?

Rolls Royce has been in the portfolio for many years. It used to be a value trap. Now it is recovering partly because travel is recovering and partly because management has done an amazing job turning around the company. The contribution to the portfolio has probably been around 627 basis points.

The biggest loser is a short position that I can’t name for compliance reasons but it is one of the artificial intelligence winners. It cost me approximately 475 basis points.

The fund has been in the top quartile of the sector over 10 years. How have you done this?

From the style point of view I suffered when there was a momentum bias because momentum has been working in the market. If you look at those disruptors leading the market, not owning them has cost me a lot of money. Since inception, the fact I am anti-momentum has detracted in relative performance.

What worked on the other side is the idiosyncratic, stock-specific turnarounds that compensated for this headwind.

Were there any particularly good or tough times?

If you look back, 2020 was the worst year ever for the fund. I owned a lot of Covid losers and was short a lot of Covid winners – I just didn’t know it until Covid hit.

The other side of the spectrum was 2022, when momentum factors were a problem. Our headline numbers [returns] went up a lot.

People ask me ‘what went wrong in 2020 and what worked in 2022?’ My response is I learned absolutely nothing and would change absolutely nothing. I owned the same names. What didn’t work in 2020 was exactly the same as what worked in 2022.

Performance has waned over one year – why?

Part of it is shorting the AI winners. Another part is the benchmark has been very concentrated and the Magnificent Seven has been very strong, which is a very significant headwind.

If you believe in the bull market then you don’t need me, buy a Nasdaq ETF and you will save a lot of money. But if you think the market is volatile then you want to have this fund.

The only other thing is, if you buy my fund, don’t make it your main allocation. Because I don’t want people to lose sleep at night or get upset.

Performance of fund vs sector and benchmark over 1yr

Source: FE Analytics

Why do you have so much in the UK?

I started building the position ages ago, it was the day after the Brexit referendum because the currency and market sold off. All of the names are stock-specific special situations and most are global businesses such as Rolls Royce and defence contractor Babcock.

When do you sell?

I start thinking about selling when I am no longer differentiated from the market. If you look at my track record I am almost always too early. Sometimes I am years too early.

There are examples where I missed out on a few hundred percentage points of upside because the stock stopped being contrarian and became quality.

What outside of fund management?

I have three kids. I love the outdoors and, in particular, trail running and mountain running. I used to do a lot of ultra [marathon] races but I’m older now so I do it mostly for fun. It is good psychologically because it clears your head out.

If the past year has taught investors anything, it should be that forecasting the future is futile.

Take US interest rates as the crowning example of this. At the start of the year investors were full of optimism that the hiking cycle was at an end and central banks around the world would start to rapidly unwind the rate cuts of the previous 18 months or so.

So much so, that there were between six and seven cuts expected by the end of January 2025.

Six months later, few were predicting many rate cuts at all. At the midway point of the year forecasts suggested there would be one or (perhaps) two such cuts.

Richard Champion, co-chief investment officer at Canaccord Genuity Wealth Management, said this was because there were still “uncomfortable inflation numbers” as well as “the sense the US economy was still growing very fast despite the interest rate rises we’d seen”.

Then, early August happened. Markets sold off rapidly for various reasons that have been discussed already on Trustnet. Here is one such example if you need a reminder.

This induced panic, with some economists even calling for the Federal Reserve to cut rates in an emergency meeting in August ahead of more cuts in September.

Champion said this would have been “panic-inducing” and would have implied the Fed “had some insight” that things were really worrying. If it had done so, he admitted he would have “run for the hills”.

Again, this blew over. However now experts are forecasting the same amount of rate cuts as they were at the start of the year (around six), albeit slightly later than originally forecast, with these expected to take place until June 2025.

Champion said we have “done a complete round trip” since the start of the year and that we’d “gone down a hill and back up it”.

For his part, he still thinks there are too many baked-into expectations, suggesting four rate cuts in the coming 12 months, rather than the eight or so that are predicted at the top end of estimates.

But he is aware that a lot can go wrong over the next 12 months. As such, he suggested it is more important to look at the “direction of travel” rather than make strong predictions about individual meetings or the number of cuts.

This seems logical. The direction of travel has always been that rate cuts are coming. Whether it be one, three, five, eight, 57 or however many people predict.

For those that want to invest for lower interest rates, this week Matteo Anelli wrote up four fund picks from Fidelity International investment director Tom Stevenson that centred around real assets – such as infrastructure and property – which he believes will do well.

Just don’t expect them to sail higher as the Federal Reserve (and other central banks for that matter) are unlikely to always do what the experts predict.

Investors have been keeping a sharp eye on the results of the elections this year, with all eyes on the implications of the ongoing US presidential race.

But according to Andrew Bell, chief executive officer of the £1.6bn Witan Investment Trust, “politicians matter far less than they like to think” when it comes to markets.

Indeed, despite investors' tendency to redistribute assets following election predictions, such as last month’s surge in investors pouring money into the ‘Trump trades’, historically there is no clear relationship between election results and market performance.

For example, in the US, the S&P 500 has made positive returns under both Democratic and Republican presidents since 1957, with discrepancies being the result of other economic developments rather than political allegiances.

Below he highlights three main themes for the coming months: inflation and interest rates; artificial intelligence (AI) and volatility.

Ditch the election obsession

Wider economic developments will have a greater impact on the global equity market than elections. Perhaps most notably, the potential for further interest rate reductions in developed markets is the thing investors need to focus on.

In June, the Bank of England elected to cut interest rates to 5% and positive inflation data in the US suggests the Federal Reserve may soon choose to do the same at its upcoming September meeting.

Bell said: “The underlying picture appears to be that interest rates are peaking around the world. So, people are now thinking as interest rates start to come down, we appear to have put the peak in inflation behind us, next year things should be a little bit better”.

This should be a net positive for stocks and, as such, next year investors will be focused on which markets are recovering, rather than which are falling, he said.

If developed economies could grow by even 1.5% for the rest of the year, the equity market will be in a much stronger position, Bell concluded.

A bi-partisan market

Optimism over the future of the equity market is further supported by the fact that many sectors enjoy bi-partisan support and are likely to experience continued investment regardless of election results.

The most notable of these sectors is technology, with companies such as the Magnificent Seven remaining highly lucrative investment opportunities that account for nearly a third of the S&P 500, despite recent poor performances.

AI, robotics and new forms of technology have continued to rise this year and have become highly attractive to investors. Markets such as these will lead to further enthusiasm for equities in 2025.

Witan chairman Andrew Ross said there is now a much stronger backdrop for equity markets, directed by “positive news around corporate earnings, centred on the boom in the semiconductor sector, and linked to investment in generative artificial intelligence systems.”

Recent volatility

However, it must be recognised that it has not all been smooth sailing for the equity markets this year. Poor recent non-farm payroll data from some of the leading tech firms damaged US investor confidence, with the S&P 500 experiencing its greatest daily drop since September 2022, as investors pulled out of equities.

Market summary of the S&P 500

Source – Google Finance

The index has fallen over the past month, sparking fears of a potential recession in US markets that have limited investment enthusiasm.

Nevertheless, Bell’s outlook for global equity markets was broadly positive. While elections and recent statistics represent a short-term policy risk, in the long term, "economics matter more".

The past two years have ushered in a generational change for markets. Gone are near-zero interest rates, low inflation, stable growth and long economic cycles that were observed for well over a decade.

While we believe the rate-hiking cycle is likely ending, we are now entering an environment that will be characterised by slower economic growth alongside higher and more volatile inflation.

In this environment, we believe fixed income will provide a higher return alternative to other asset classes than in the previous decade.

By comparison, equities are expected to be lower, facing elevated valuations, slower growth and wider cost of capital. However, we believe real assets should outperform both bonds and equities as the starting point for valuations is attractive.

While forecasters have consistently been too optimistic about inflation falling, we expect stickier inflation going forward, due to commodity underinvestment, tight labour markets, geopolitics and deglobalisation.

Diversifying beyond stocks and bonds with real assets is likely to become increasingly important in creating more efficient portfolios.

Fixed income – a higher return alternative?

The new regime of higher rates and higher-trend inflation has mixed implications for fixed income returns. The upside is that the recent rise in interest rates means that capital losses are likely behind us, and higher current yields are expected to generate good returns (3.9% per year) over the next decade.

That’s a significant difference from the previous regime (spanning 2012–2021), when there were only three months in which 10-year US Treasuries closed with a yield greater than 3%.

Following the growth and inflation rebound post-Covid, and aggressive central bank tightening, short-term rates have shifted higher, brushing up against 5% in 2023.

While a higher-for-longer cyclical environment has dominated market attention lately, neutral real rates are slightly lower than current levels, indicating Fed easing.

Regardless of the timing and number of rate changes, we do not expect rates to decline to pre-Covid levels. Indeed, our base case anticipates a terminal Fed funds rate of around 3% over the next decade.

The starting point for corporate credit markets is also relatively attractive from a yield perspective as these markets appear poised to outperform Treasuries. However, the starting point on spreads poses shorter-term risks in a slower-growth environment, which could lead to spread widening and a cyclical uptick in defaults.

Preferred securities had a strong year, returning 8.2% in 2023 despite the well-publicised banking sector turmoil. Looking ahead, we remain optimistic about preferreds’ return potential, including strong fundamentals, attractive valuations and the end of the rate-hiking cycle.

Equity returns are lowering

Global equity markets face several crosscurrents in the years ahead. Strong nominal growth should support top-line growth, particularly in the US, even if some margin compression is possible from currently elevated levels.

However, the starting point for valuations is less supportive in a higher–yield interest rate regime and given 2023’s strong performance, more than half of which is attributable to multiple expansion.

Combined, this suggests US equity returns of 7.0% over the next decade – far lower than the previous decade of 12.0%.

For developed international equities, with different drivers to the US, we anticipate slower-trend earnings growth due to declines in working-age population growth and relatively lower productivity.

However, these markets have higher dividend yields and more attractive valuation starting points to support returns. Therefore, we expect their total returns to be on par with the US moving forward.

Despite persistent underperformance, we believe emerging markets will continue to lag in coming years, given a continuation of structurally lower return on equity and potential headwinds to growth in China.

Attractive valuations for real assets

The world has transformed from an era of abundance to a regime characterised by ‘scarcity,’ with higher inflation, higher wage price pressures, a move away from peak globalisation and more geopolitical uncertainty.

This, alongside improved diversification of traditional portfolios, is a backdrop that is likely to support higher real assets prices, creating strong returns driven by growth and profitability.

For US listed REITs, we expect annualised returns of 8.0% over the next decade. Global listed REITs are expected to be similar (8.1%) given a slightly higher dividend yield and better valuations after lagging returns in 2023.

Listed (and core) private real estate returns tend to be similar over the long run, reflecting the likeness of the asset classes. During 2023, listed markets rose while private market returns were negative.

As a result, we expect somewhat higher returns in private markets (7.3%) in the next decade. Expected total returns for global listed infrastructure also appear attractive at 7.8% over the same period.

Commodity prices will be supported by the secular backdrop, including recent underinvestment in supply, investment in energy transition, and global geopolitics.

For commodity returns, a higher level of interest rates boosts the expected return on collateral, offset slightly by some drag from the roll yield.

This should support strong natural resource equity returns over the coming decade (8.8%), alongside low current valuations and high free cash flow growth.

Jeffrey Palma is head of multi-asset solutions at Cohen & Steers. The views expressed above should not be taken as investment advice.

In the shifting economic landscape, investors should start to consider buying income-generating assets, as they should benefit the most from the Bank of England’s loosening monetary policy, according to Tom Stevenson, investment director at Fidelity International.

One more base-rate cut is priced in for later in the year, but it is the nature of the cut that will determine the direction of the market, not the cut itself.

“If central banks are expected to cut rates simply because inflation has been brought under control, it generally benefits the stock market. Lower rates make dividend-paying stocks more attractive and reduce borrowing costs for companies,” Stevenson said.

“But things are different if rates are being cut to deal with a recession. Investors must weigh the potential benefits against the negative impact on corporate profits and may be inclined to sell shares if they believe a recession is imminent.”

While bonds might be the first asset class that comes to mind as a beneficiary from a falling rates environment, Stevenson selected four funds from Fidelity’s Select 50 list that belong to two less talked-about sectors to “allow investors to balance potential gains with the risks associated with an uncertain economic outlook”.

For those looking to reposition their portfolios, the first fund to consider according to the investment director is First Sentier Global Listed Infrastructure.

Performance of fund against sector over 1yr

Source: FE Analytics

It currently yields 3.3% and invests in infrastructure companies, which Stevenson said stand to benefit from lower rates.

“The fund is open-ended but avoids liquidity problems by investing in the shares of listed infrastructure companies (one holding is Britain’s National Grid) rather than in infrastructure assets themselves,” he said.

For fans of investment companies, another “solid choice” in this area is the £2.4bn International Public Partnerships trust.

Performance of trust against sector and indices over 1yr

Source: FE Analytics

The strategy provides exposure to “essential assets” such as hospitals and railways and currently yields 5.6% while trading at a 17% discount.

On the property side, Stevenson highlighted the Balanced Commercial Property trust.

“Yielding 5% and trading at a 18.45% discount, it offers potential upside as borrowing costs decrease,” he said.

It is one of the largest physical UK property trusts available investing in prime UK commercial property which has had the same manager, Richard Kirby, since launch.

The trust is also recommended RSMR analysts, who said it was a “core holding”, noting the “consistent monthly income” makes it “attractive for investors as an alternative source of yield from fixed income and equity”.

In the past year, it soared above its peer group, as the chart below shows.

Performance of trust against sector over 1yr

Source: FE Analytics

“Property and infrastructure investment trusts can benefit in another way from interest rate cuts: they tend to have borrowed money, so falling rates should cut their interest bills,” Stevenson explained.

The final pick was the iShares Environment & Low Carbon Tilt Real Estate index fund, a passive strategy that tracks the performance of the FTSE EPRA/NAREIT Developed index. A “sustainable investment option” in the real estate sector, the fund is currently yielding 5%.

Savers have a multitude of options at present for their cash, with savings rates relatively high (and beating inflation), markets coming off a small de-rating and mortgage rates remaining higher than the past decade despite being likely to fall in the coming months as interest rates are cut.

To this end, analysts at interactive investor looked at the potential benefits of two of the most common options people use when they have additional savings to put away – paying off their mortgage early or investing in their pension.

Much comes down to the expected level of return in the coming years, the data showed. To work out the differences, ii researchers looked at someone with a £200,000 mortgage with a 25-year term paying between 4% and 5% in interest each year.

They then calculated overpaying an additional £200 per month, which would result in the mortgage ending six years early. For the example, interest rates are assumed to be static. This is ‘Option 1’ in the below table.

This is pitted against investing the additional £200 per month into a pension, shown as ‘Option 2’. Both are assumed to benefit from pension tax relief.

‘Option 3’ is the same methodology as Option 1, but assumes that the pension tax relief has been removed.

Table of returns under different scenarios

Source: interactive investor

In the first scenario, with interest rates at around 5% and investment returns of around 3% savers would be better off with Option 1 – overpaying their mortgage – to the tune of almost £28,000.

If rates are assumed at 4%, with returns of around 4%, there is little to choose between Option 1 and 2. However, if markets boom over the period, making 7% per year on average (above the long-run average for stock markets) pension investing is the best choice, making almost £40,000 more than overpaying the mortgage.

Craig Rickman, personal finance and pensions expert at ii, said: “As you may expect, the gap between interest rates and expected investment growth result in different outcomes. Put simply, if the interest rate is higher than the anticipated investment growth, overpaying your mortgage first and then adding to your pension is the preferable option.”

However, he noted that, when choosing between the two options, the rate of tax you pay could be a “crucial factor” as those in the higher-rate and additional-rate tax bands can gain 40% or 45% upfront relief, respectively, on pension payments.

“Paying into a pension can not only trim your tax bill but may also help you to swerve or reduce the high-income child benefit charge or keep your personal income tax allowance. It’s vital to factor this into any decision you ultimately make,” he said.

This discussion is particularly pertinent at present, with the recent fall in mortgage rates potentially shifting the conversation.

People’s decision will also come down to circumstance. For example, investing in a pension is a risk, while overpaying the mortgage is a guaranteed benefit that would leave individuals debt free much quicker, something he described as “the holy grail of financial freedom”.

But that is not the only choice, as the numbers above show. He said the arguments for using spare cash to boost your pension are “equally strong”, but do require savers to understand investment risk.

“There's no one-size-fits-all answer here – both options can improve your long-term financial security. The right path for you will depend on your individual circumstances, including your financial goals, current mortgage terms, tax position, and risk tolerance,” said Rickman.

“For those torn between the two, the good news is the decision isn’t binary. You can choose to split any surplus savings or income between reducing your mortgage and boosting your pension.”

Fourteen global emerging markets (EM) funds are less risky than the FTSE 100 index, data from FE Analytics has shown, even though countries in the EM region are typically more volatile.

To evaluate this, Trustnet looked at the FE fundinfo Risk Score. This metric evaluates relative risk by assigning a baseline risk of 100 to the FTSE 100 and of 0 to cash, and then ranking funds on this scale based on their performance over the past 18 months to three years.

We begin with the least risky fund of the 168 in the sector – the Allspring (Lux) Worldwide Emerging Markets Equity Income fund.

This $105m strategy co-managed by Alison Shimada and Elaine Tse has a risk score of 59, but it doesn’t score as well on other risk measures. For example, it has one of the highest Sortino ratios, which measures the volatility of a fund specifically in bear markets.

It also has a negative return of 12.1% over three years, a timeframe when most other funds in the list grew at a double-digit pace.

Source: FE Analytics

With a risk score of 75, the iShares Edge MSCI Emerging Markets Minimum Volatility UCITS exchange-traded fund (ETF) came second place, and with a ongoing charges figure of 0.40%, it was the cheapest fund in the list.

Other passive options included WisdomTree Emerging Markets Small Cap Dividend UCITS ETF (risk score: 91), SSGA SPDR MSCI Emerging Markets Small Cap UCITS ETF (95) and Invesco FTSE Emerging Markets High Dividend Low Volatility UCITS ETF (99).

On the active side, Robeco QI Emerging Conservative Equities leads the way with a risk score of 77 – the least risky and the most popular vehicle, with £2bn of assets under management (AUM).

It has achieved a full FE fundinfo Crown Rating of five and is co-run by a team of five managers, who focus on companies with high dividend yields, attractive valuations, strong momentum and positive analyst revisions.

Its Sortino ratio of 0.64 is the best of the list and the second-best in the whole peer group, giving investors a good chance at protecting their money in down markets but also marking returns when markets are going up. It was the best performer in the list, with a three-year return of 25.2%.

The team invest in low-volatility stocks, aiming to make comparable returns to an emerging market benchmark with a much lower level of downside risk.

Performance of fund against sector and index over 3yrs

Source: FE Analytics

Another sizable strategy with an AUM of £1.6bn, Dimensional Emerging Markets Core Equity had a risk score of 95. It was also among the cheapest active strategies, charging only 0.45%. The fund’s portfolio is generally invested in three buckets: shares of smaller companies; highly profitable businesses; and value stocks.

Next up was the Templeton Emerging Markets Smaller Companies fund, a bottom-up strategy with the key tenet of choosing smaller companies with sustainable earnings power, as RSMR analysts explained.

“The potential for investors is that market valuations tend to be significantly lower than in large-cap stocks whilst the downside is that there can be a lack of liquidity in many of the names.  As a result, investors in the fund should have a long-term investment horizon,” they said.

Another strategy with a focus on smaller companies, JPM Emerging Markets Small Cap is run by FE fundinfo Alpha Manager Amit Mehta and Austin Forey and has featured repeatedly on Trustnet recently, including as part of the top-quartile emerging market funds that weren’t afraid to stray from their benchmarks, the most consistent emerging market fund of the decade and the discounted investment trusts specialist stock pickers are snapping up.

It is a high-conviction portfolio of high-quality companies with “superior and sustainable” growth potential and with a risk score of 99, it is almost as risky as the FTSE 100. While its approach has made a 3.8% loss over the past three years, most small-cap funds have struggled and its longer-term track record is much better, as the chart below shows.

Performance of fund against sector over 3 and 10 yrs

Source: FE Analytics

Other funds that also stood out were abrdn SICAV I Emerging Markets Smaller Companies, AB SICAV I Emerging Markets Low Volatility Equity Portfolio and McInroy & Wood Emerging Markets.

Previously, we also covered the UK small-cap funds less risky than the FTSE 100.

Savers have the chance to snap up inflation-beating deals today, but they must act quickly before central banks continue their rate-cutting cycles.

The Consumer Price Index (CPI) reading in today’s news registered an uptick to 2.2% in headline inflation in July, however 1,558 savings accounts available beat this rate, giving savers the chance to counter inflation’s corrosive action on their purchasing power.

This is the first time this has happened in at least two years – in August 2023 and 2022 there were no deals that could beat the previous month’s CPI readings (6.8% in July 2023 and 10.1% in July 2022).

Moneyfactscompare’s Caitlyn Eastell encouraged savers to secure an inflation-beating deal now, as some of the top savings rates have dropped below 5%.

“It is crucial savers keep on top of the changing market and make the switch to ensure they are not getting a raw deal, especially as we have seen some of the top rate deals drop below 5%. It would not be too surprising to see more providers adjusting their rates in reaction,” she said.

“Since the previous inflation announcement, fixed rates have faced further reductions, so it may be wise for savers to begin considering locking into an interest rate while the majority continue to pay competitive returns.”

Longer-term rates have suffered the most, while shorter-term savers are continuing to be incentivised with higher top rates, despite some drops.

Savings market analysis

Source: MoneyfactsCompare

The best easy-access account available today based on a £10,000 lump sum, is Ulster Bank’s Loyalty Saver, which pays a variable 5.20% yearly, but is only available to new and existing current account customers.

Principality Banking Society offers a bonus rate for 12 months on its Online Triple Access account, paying 5.00% yearly (also variable). For savers who want unlimited access to their cash, Monument Bank pays 4.91% variable every month via Raisin UK.

Fixed-rate deals are only marginally better. The Union Bank of India is the best-payer for one- and two-year maturity accounts, offering 5.25% and 4.80%, respectively. Locking money away for even longer won’t help either, with the best five-year rate available coming in at 4.55% with Al Rayan Bank’s Deposit account, available through Raisin UK.

One area of the market to see improvements has been ISAs, Eastell noted, with new market-leading rates across the board that now match the return of their non-ISA counterparts.

ISA market analysis

Source: MoneyfactsCompare

Virgin Money has a one-year cash ISA paying 5.05%, Nottingham Building Society’s two-year rate is 4.73% and, at 4.26%, the best five-year fixed-rate cash ISA is UBL’s.

On the other hand, notice accounts have seen a dip in top rates month-on-month and now pay below 5%, which may be bad news for consumers looking to maximise their tax-free savings.

“This may not be wholly unexpected, and it would be sensible to expect more reductions to variable rate products alongside the Bank of England’s decision to drop interest rates at the beginning of the month,” said Eastell.

“During this time, it is crucial that savers do not grow complacent with their pots and switch accounts when attractive deals appear to ensure that inflation does not erode their cash.”

Making a case for emerging markets (EM) investing has never been straightforward. There has always been a struggle between the lure of superior returns and the suspicion that, sooner or later, disaster or instability might wipe these out.

Indeed, a series of shocks – including the 1980s’ Latin American debt crisis, the 1990s’ Asian financial crisis and concerns about higher US interest rates in 2013 – have repeatedly driven investors to withdraw their capital, causing a pattern of boom and bust.

Doubts still linger over how many EM countries can actually achieve developed status, or the justification for investing in emerging market equities from the standpoint of returns.

But none of this necessarily means investing in emerging markets isn’t worth it. On the contrary, there are many signals that the best may be yet to come.

So, looking ahead, what is the appeal of investing in emerging market equities and how can stock pickers succeed in this specialist discipline?

Growth on the horizon

When the case for an allocation to emerging market equities is made these days, it usually centres around relative valuation. This is reasonable enough: the asset class has gone nowhere for a decade, while developed markets – led by the US – have gone from strength to strength.

These valuation-based arguments are increasingly being supplemented by a new-found appreciation of emerging markets’ macroeconomic resilience.

Sure enough, we have just gone through the most aggressive Fed tightening cycle in a generation, and most of the major emerging economies have sailed through unscathed. But the case for growth in emerging markets isn’t being discussed nearly enough.

We are constantly told that the golden age of globalisation is at an end, and that emerging markets, as the biggest prior beneficiaries of this trend, will be the most challenged by its reversal.

Yet what we are seeing is not de-globalisation, but de-sinification as the West seeks to grind China out of its system. There will be winners elsewhere in emerging markets as supply chains adjust, new export champions emerge in countries such as Vietnam and Indonesia, and capital flows to these markets.

A shifting centre of gravity

Equities in Mexico, South Korea, Vietnam and India are finally attracting more attention after a decade of neglect.

That’s because, when it comes to the key challenges we are likely to face in coming decades, many of the answers are in the developing world.

If you think about the transition to renewable energy, we're going to require an awful lot of critical minerals, copper and nickel.

If you think about developed markets reviving their manufacturing sectors, we’re going to need an awful lot of steel and cement. And if you think about artificial intelligence (AI), we’re going to need lots of semiconductors.

When I think about all those things, the idea that the world's centre of economic gravity will continue to tilt towards emerging markets seems very plausible.

Macro matters

What, then, is needed to take advantage of this change in headwinds? The extreme nature of cycles in emerging markets means there can be long periods of time when top-down factors are overwhelming.

Some investors will tell you that macroeconomics doesn’t matter, it’s all about finding great companies and focusing on fundamentals. But I would respectfully tell you that it does matter in emerging markets.

If you pick the right companies at the wrong moment, currency moves and stricter lending criteria can send the value of emerging market stocks and bonds into a tailspin. But the results can be stellar when both factors work in your favour. And there are signs to suggest such a period is on the horizon.

We’re still below the 2007 peak in the MSCI Emerging Markets Index at a time when other global stock markets have done well, and more capital has left emerging markets than has flowed in for the best part of a decade.

The result is that asset prices appear undervalued compared to other markets. And from emerging markets, more and more world-class companies are appearing.

World-class companies

Take Taiwan Semiconductor Manufacturing Corporation, better known as TSMC. It has close to a 60% market share in manufacturing chips for third parties, and counts Apple, Nvidia and Qualcomm among its biggest clients.

In the 1990s, it was about twice the size of its nearest competitor, United Microelectronic Corporation. Now, it’s six times the size. It got there by doubling down every time there was a down cycle, while its competitors retrenched.

Nobody knows what the new digital age will look like, or which AI applications will be most successful, but we have a good idea that TSMC will be making the semiconductors powering them. I think the market still misses how much value it could create. 

India, too, has many promising startups, while its larger brands benefit from the public’s growing disposable income. Much of this potential is already reflected in valuations. However, Jio Financial Services is one example of a company whose prospects are particularly bright. 

There are hundreds of fintech companies in India. What makes this one special is that it’s backed by Reliance Industries and has access to all its data. We’re talking about 400 million telecoms customers and 200 million retail customers: that’s a powerful combination.

Patience can be profitable  

We can go quite far in imagining where the tilt towards emerging markets might take us.  

If the early 2000s were about the integration of China and the West, the 2020s are poised to see something much broader: 4 billion people in 100-plus EM countries that are doubling down on trade with both sides of the geopolitical divide. 

Evidence of this is already becoming economic reality, as emerging market countries trade with each other more than ever. This is increasingly happening in currencies other than the dollar, further liberating emerging markets from their historical dependence on US policy. 

The profits from this new wave of globalisation are likely to be reinvested into emerging markets themselves. It could be a far more powerful and self-sustaining trend than anything that has unfolded before. 

Anticipating these longer-term dynamics is more straightforward than trying to time the turning points in cycles: collapse is followed (at some point) by supply withdrawal and stimulus, which is followed even later by recovery. So, if you have the luxury of a long-term investment horizon, patience can be profitable. 

Will Sutcliffe is head of Baillie Gifford’s emerging markets equities team. The views expressed above should not be taken as investment advice.

Fund managers around the world have become increasingly downbeat in their outlook for the economy following the market crash in early October, a closely watched sentiment survey has found.

The latest edition of the Bank of America Global Fund Manager Survey, which polled 189 asset allocators running a total of $508bn, was carried out between 2 and 8 August – so was running when global stocks tanked on Monday 5 August.

As has been discussed widely, several factors combined to spark the sell-off including worries that the US economy could fall into recession, the unwinding of the Japanese carry trade and fears that US tech stocks were overvalued.

Below, we look at seven charts from the Bank of America Global Fund Manager Survey to see how investors were affected by the August stock market drop.

Bank of America Global Fund Manager sentiment indicator

Source: Bank of America Global Fund Manager Survey, Aug 2024

Bank of America’s broadest measure of fund manager sentiment revolves around the percentile ranking of respondent’s growth expectations, cash levels and equity allocations. This fell to 3.7 in August, down from 5 in July.

Part of this was down to fund managers’ increasing their cash levels for the second month in a row, from 4.1% to 4.3%, as the market sold off in the opening week of the month.

Net % of fund manager expecting a stronger global economy in next 12 months

Source: Bank of America Global Fund Manager Survey, Aug 2024

But a major source of the fall in sentiment can be seen in the chart above – confidence in the economy has collapsed to an eight-month low. The August survey found a net 47% of investors expect a weaker economy in the next 12 months, down 20 percentage points from the previous survey.

Some 52% of managers think the most likely scenario for the global economy is ‘below-trend growth and above-trend inflation’ (down from 65% last month). One-third expect ‘below-trend growth and below-trend inflation’, which is the most since November 2020.

What fund managers consider to be the biggest ‘tail risk’

Source: Bank of America Global Fund Manager Survey, Aug 2024

Because of this, a potential recession in the US has become the biggest ‘tail risk’ for global asset allocators. In July, just 18% of investors cited this as the main risk; in the latest survey, 39% said they worry about this the most.

The number of managers worried about geopolitical conflict, higher inflation, an artificial intelligence (AI) bubble or a US election ‘sweep’ (where one party takes the presidency and a senate majority) has fallen as macro concerns mounted.

What is the most likely move for the Fed in the next 12 months?

Source: Bank of America Global Fund Manager Survey, Aug 2024

However, the core assumption among fund managers is that the global economy will encounter a ‘soft landing’ (a slowdown rather than recession) in the next 12 months, with 76% expecting this outcome.

That said, investors now expect a greater degree of policy easing from the Federal Reserve will be required to achieve this. Around 60% of managers anticipate four or more rate cuts in the US over the next 12 months, with 94% expecting the first at the Fed’s September meeting.

That said, just 8% of managers expect ‘no landing’, down from 18% last month. Some 13% think a ‘hard landing’, or recession, is on the cards in the coming 12 months, up from 11%.

Net % overweight equities and bonds in 2024

Source: Bank of America Global Fund Manager Survey, Aug 2024

During August, the net overweight to stocks has fallen to 11%, down from 33% last month. This is managers’ lowest allocation to equities since January 2024 and the largest month-on-month drop since September 2022.

The allocation to bonds shifted from a net 9% underweight in July to a net 8% overweight this month as investors rotated into safer havens.

Month-on-month change in manager positioning

Source: Bank of America Global Fund Manager Survey, Aug 2024

The above chart shows this rotation in more detail, with investors increasing their allocation to defensive areas of the market (bond, cash and healthcare) while moving away from riskier assets (stocks, Japan, tech, banks and commodities).

What managers believe will lead the new US equity bull market

Source: Bank of America Global Fund Manager Survey, Aug 2024

Looking forwards, fund managers continue to believe that large-cap growth stocks will lead the next US bull market, much like they have over recent years. However, confidence in this view has been shaken: 36% of investors backed large-cap growth stocks in August, down from 47% last month.

In contrast, there’s a growing number of asset allocators looking to large-cap value stocks as the likely leaders of the next bull market, with 21% backing them – up from just 13% in July.

Recent predictions of multiple rate cuts by the Federal Reserve this year may prove disappointing for investors, according to FE fundinfo Alpha Manager Richard Hodges, who runs the $2.3bn Nomura Global Dynamic Bond fund.

His base case is that the Fed will indeed cut rates, allowing other central banks to follow suit, but he is less confident than the market. He noted that multiple rate cuts are priced into the remainder of 2024, something that gives “ample room for disappointment”.

In addition, in the short term the Alpha Manager predicts that political uncertainty in this big year of elections, and less liquid summer markets, will lead to much greater volatility in the fixed-income market.

For this reason, Hodges continues to prioritise its existing investment strategy, focusing on allocations that are low-risk and could adapt to unexpected decisions from the Fed.

For example, the fund will continue to use credit default swap (CDS) index-based hedging to protect investors against a change in risk sentiment. This CDS-based protection accounts for almost 30% of the portfolio.

Additionally, the fund has significant exposure to European banks and financials such as Barclays, which is currently the firm’s sixth-largest holding.

This exposure to senior financials offers low risk if the Fed chooses not to cut rates further, but also provides the potential for stronger returns if a more aggressive campaign begins, he said.

Performance of Fund vs the sector

Source: FE Analytics

However, over the longer term he remains confident on the prospects of bonds, particularly those at the riskier end of the market. He noted that rate cuts will “lead to a positive environment for a wide range of risk assets”.

As such, the fund has positions in emerging markets, convertibles and European financials that will
“benefit from the realisation of that environment”.

UK inflation has ticked up again for the first time this year, as the consumer prices index (CPI) rose to 2.2% in the 12 months to July 2024 from 2.0% in June, Office for National Statistics figures show.

The increase was largely expected and the main culprit was energy prices, which have not dropped to the same extent that they did last year, AJ Bell director of personal finance Laura Suter explained.

“The price of energy actually fell in the month, but due to the way inflation is calculated energy prices didn’t fall by as much as they did in July last year, which translated to an increase in the figures,” she said.

“It’s a common story across a number of areas, where prices fell in the month but were higher than a year ago – having the effect of pushing up headline inflation. We saw a similar story in petrol and diesel prices and in second-hand cars.”

The headline CPI figure of 2.2% doesn’t tell the whole story, however. Core inflation (which excludes more volatile elements like energy, food, alcohol and tobacco) fell to 3.3% in July from 3.5% in June, its lowest level since September 2021.

Services inflation, which is a particularly sticky component, also dropped from 5.7% to 5.2% – but this was still elevated according to Richard Carter, head of fixed interest research at Quilter Cheviot.

“The problem the Bank of England [BoE] has is that services inflation remains elevated at 5.2% and, with wage growth remaining well above the headline rate of inflation, there are many risks out there should the BoE move too quickly in cutting rates,” he said.

“Indeed, with core CPI at 3.3%, we would expect November to be the earliest date for the next rate cut, unless we see a significant deterioration of the economy in the meantime. Any further, unexpected rises, will start to ring alarm bells just as consumers and businesses crave further rate cuts.”

Annual CPI inflation rates

Source: Office for National Statistics

Indeed, markets are now expecting rates to dip below 4% towards the end of next year, as noted by Ed Monk, associate director for personal investing at Fidelity International, who predicted one more cut in 2024.

While lower rates have tended to be positive news for stock markets, investors should always be aware of the wider picture – that rates are coming down because there is less momentum in the economy.

“The Bank of England has begun to ease monetary policy and will be watching growth data closely for signs of a more sudden slowdown that could accelerate the timetable for rate cuts,” he said.

“As rates fall cash will become less attractive. Many investors have sought the safety of cash deposits this year as rates have stuck above the rate of inflation, but they may be forced to reassess as interest rates falls. Bonds, which have disappointed for some time, may become more attractive if cuts come through more quickly.” 

Craig Rickman, personal finance and pensions expert at interactive investor, also invited investors to remain alert. Despite the significant drop from the dizzying double-digit heights that battered finances two years ago, “the threat to long-term wealth creation hasn’t disappeared completely”, and savers and investors “would be wise to bear this in mind when making decisions with their money”.

“If left unchecked, price rises can have a punishing impact on your financial future, silently eroding the ‘real value’ of your portfolio and reducing its future buying power. That’s why it’s essential to make sure your savings and investments aim to beat inflation,” he said.

“Hunting for the best cash savings rates, making the most of your tax wrappers such as SIPPs and ISAs, and keeping your portfolio costs low are three savvy ways to mitigate the impact of price rises on your wealth.”

Market wobbles can represent a good time for investors to get into the market – particularly those who have never done so before and have a long time horizon for their money.

The recommendation from most professionals is to get in when stocks are cheap and sell when they are expensive. Although there is no guarantee that stocks are now good value, they are at least lower in value than they were before the summer started, due to a slide downwards over the past few months that culminated in last week’s brief sell-off

As such, Trustnet asked Quilter Cheviot head of fund research Nick Wood to come up with a perfect portfolio for a young person starting their investment journey.

“With it potentially not being touched for 20, 30 or even 40 years (if for retirement), there is a real opportunity to take a risk knowing that equities deliver the greatest growth potential over the long term,” he said.

His portfolio includes both public companies as well as private equity and is largely made up of investment trusts, which he said look good value as “plenty are on meaningful discounts – where the share price is lower than the net asset value (NAV) of the holdings”.

“Investment trusts are inherently more volatile than open-ended funds, but again the long time horizon means this is less of an issue as time is very much on the investor's side,” said Wood.

His highest conviction is in JPMorgan Global Growth & Income, where he allocated 30% of the portfolio, despite it being one of the rare strategies trading on a slight premium of 0.8%.

The trust has been the best performer in the IT Global Equity Income sector over three, five and 10 years, although it was one of the worst-affected by the most recent drop in equity markets over the past few months.

Performance of fund vs sector and benchmark over 10yrs

Source: FE Analytics

“This trust provides investors with broad global equity exposure and draws on JP Morgan’s investment process, resulting in a portfolio of only the firm’s highest conviction (top 50-90) companies being selected on the basis of quality earnings that are growing faster than the market,” said Wood.

“It pays a dividend of 4% of net asset value every year and has the ability to borrow to invest (gearing), meaning shareholders should benefit over the long term.”

To go alongside this, he put 20% of the pot in Scottish Mortgage, the high-growth portfolio from Edinburgh-based asset manager Baillie Gifford.

The trust has been choppy, down 38.1% over the past three years, but despite this remains the best performer in the IT Global sector over the past decade. Its shares can be snapped up at an 9.5% discount to NAV.

Performance of fund vs sector and benchmark over 10yrs

Source: FE Analytics

“Perhaps one of the UK’s best-known investment vehicles, the team at Scottish Mortgage run an investment philosophy that is truly long term, seeking the next generation of market leaders,” said Wood.

He highlighted the trust’s “significant outperformance” relative to its peers during the initial stages of the Covid pandemic in 2020, as well as its dominance during the low-growth, low interest rate-environment of the past decade.

Much of its success came from unlisted companies, such as the current largest private equity position in the trust: Elon Musk’s unquoted SpaceX.

“Up to 30% of the portfolio can be invested in unlisted investments, capturing the opportunity before any initial public offering (IPO),” said Wood.

“As such, the trust is very much set up in the growth space, and with inflation coming under control and rate cuts due to be implemented in the US, conditions are positive for the portfolio in the short term, while also remaining bright in the long term thanks to its focus on transformational trends.”

To enhance the private equity offering even further, Pantheon International was also added and given a 15% weighting. Because private companies are riskier than their public counterparts, its shares sit on a wide discount of more than 37%, but could be good value if the trust soars.

The trust has been a third-quartile performer in the IT Private Equity sector over the past three, five and 10 years, but has risen over the past 12 months to the second quartile, slipping back in recent days, as the below chart shows.

Performance of fund vs sector over 1yr

Source: FE Analytics

“With a long-term time horizon, private equity has proven capable of providing excellent returns to patient investors. The underlying portfolio is made up of over 500 companies and spans buy-outs, growth capital and venture capital, whilst being diversified geographically and by sector,” said Wood.

“This trust pays a dividend, which over the years will compound for investors, while also providing opportunities for growth via exits.”

He also allocated 15% to Bill Ackerman’s Pershing Square Holdings, a fund with a “significant activist approach”. It looks for poorly run companies that can be turned around with corporate action – something that has worked out well over the past five years with the trust up 164.3%, the best return in the IT North America sector.

Performance of fund vs sector and benchmark over 5yrs

Source: FE Analytics

Wood said the trust is a combination of “high-quality stocks” (currently 12), providing “differentiated exposure to the US alongside that held by Scottish Mortgage and JPM Global Growth and Income.”

The share price discount of 28.5% is exceptionally wide as this strategy is perceived as riskier than a traditional portfolio. However, the Quilter Cheviot head of fund research noted that this makes now “a good time to invest”. 

Lastly, he selected something closer to home with a 20% weighting to Schroder Recovery, the UK fund run by the firm’s value team. It has consistently outperformed expectations, beating the market over the longer term even when the style of buying out-of-favour companies was itself unloved.

“With the UK still out of favour, there is potentially a double discount, with the team selecting the cheapest companies within the UK that have suffered short-term setbacks,” he said.

“Due to the contrarian nature of the fund, returns can diverge from its benchmark index (FTSE All-Share) but this should mean plenty of opportunities for above-average returns over the long term.”

The only non-investment trust pick on the list, the fund has been a top-quartile performer over the past three and five years, although it has been below-average more recently.

Performance of fund vs sector and benchmark over 5yrs

Source: FE Analytics

This may be due to the team’s current bias towards small and mid-sized companies, which has worked well in pockets when expected rate cuts have boosted investor sentiment, but has struggled in the very short term after the recent market wobbles.

Inspiration can come from the least likely and most mundane of places and currently there are ample investment ideas to be found whilst shopping for groceries: from the consumer staples brands gracing the shelves – as well as the portfolios of Guinness Global Equity Income and Evenlode Income – to the supermarkets themselves.

As a case in point, the Gresham House UK Multi Cap Income fund has built a position in Sainsbury’s in the past month.

In a similar vein, Laura Foll, co-manager of Henderson Opportunities Trust, Lowland and Law Debenture, holds Sainsbury’s and Tesco across all her portfolios and has been adding to both in recent months.

The industry backdrop has evolved over the past decade, said Brendan Gulston, director, public equity at Gresham House. Aggressive store rollouts have been curtailed and the price wars of the past have all but ceased. Morrisons and Asda are private equity-owned with high levels of financial leverage, so their ability to engage in aggressive tactics has been restricted, he added.

Foll agreed that “industry dynamics have changed”, although supermarkets remain “fiercely competitive”. “Both Tesco and Sainsbury have brought prices much closer to the discounters, making it an easier choice for consumers to do one big shop,” she said, resulting in market share gains for both supermarkets. Tesco remains the largest in the UK at 27.7% of the market, according to data from Kantar Worldpanel, while Sainsbury's is second with 15.3%.

Tesco and Sainsbury’s have conservatively managed their balance sheets and are “using this balance sheet heft to invest heavily in their store estate and elsewhere”, she explained. “Sainsbury, for example, is guiding to a capex for this year of circa £800m. Part of the thinking behind this substantial investment may be to put some permanent ‘white space’ between them and their more indebted competitors.”

Below, fund managers articulate their investment theses for Sainsbury’s and Tesco.

Sainsbury’s

Gulston said Sainsbury’s’ valuation is attractive at 10x forward earnings before interest and taxes (EBIT), the lowest level at which it has traded in at least four years. Crucially for an income fund, it has a 5% dividend yield and a 60% payout ratio, so the dividend is fully covered. Sainsbury’s also possesses a £6.5bn portfolio of freehold land and buildings, mostly in London and the south of England.

If the stock experiences a modest rerating to 11.5x EBIT, he thinks he could double his investment over a five-year horizon.

Performance of Sainsbury’s over 5yrs vs FTSE 100

Source: FE Analytics

Sainsbury’s has some “compelling self-help levers” to pull, said FE fundinfo Alpha Manager Gulston. Just 15% of stores carry its full food and grocery range, including ‘Taste the Difference’ and private label products. The conversion rate to other products is much higher in stores that stock the full range, so Sainsbury’s has a compelling opportunity to expand the range in its other stores.

The grocer is also implementing cost savings by running its business more holistically. For instance, procurement might choose a cheaper product, delivering an initial saving, but it might take longer to unpack, thus increasing the cost of store labour. Sainsbury’s has started looking at end-to-end costs including how procurement decisions affect store labour and in turn, how store labour impacts restocking and the supply chain. The company has delivered £1bn in savings already in this way and expects to save more, he explained.

Co-located Argos pick-up spots also provide an opportunity for cross-selling to the 50% of UK households who shop there.

Meanwhile, higher online penetration is improving margins. Delivering goods bought online to customers’ homes involves a high fixed cost base so the incremental profit from higher online penetration is significant.

Furthermore, Sainsbury’s has a wealth of first-party data through its Nectar loyalty platform, which it can use to target customers through email campaigns and social media. The supermarket chain aims to generate £100m of incremental profit by 2027 by monetising its first-party data more effectively.

Tesco

Nick Shenton, co-manager of the £4.7bn Artemis Income fund, has held Tesco since January 2017. “The business has faced up to the full force of disruption from discounters and come out stronger and fitter. Tesco has more market share online than offline today, which shows it is a truly multi-channel business,” he said. 

“It serves customers, however and wherever they want to shop. If you want to do your big shop once a week at Tesco, you can do that. If you want to get ingredients in less than 30 minutes via its Whoosh service, you can do that too. And everything in between. Tesco has invested in value, quality and service, which means it’s winning with customers and taking market share.” 

Performance of Tesco since January 2017 vs FTSE 100

Source: FE Analytics

Management has focused on improving return on capital and cashflow, so “we have been enjoying a 4% dividend yield that grows at 5% a year from share buybacks alone”.

Like Gulston, Shenton thinks that Tesco’s scale, data and insights are a huge competitive advantage. It has used artificial intelligence for years and will continue doing so to greater effect, he said. “But the key point is that you need the data – Tesco has it and so can be an even smarter business.”

The investment world has traditionally adhered to a 60/40 split between equities and bonds, providing a stable framework for investors seeking balanced returns.

However, as the financial landscape has evolved, the interplay between equities and bonds is no longer as uncorrelated as it once was. Put another way, this shift in behaviour has prompted reassessment of what a diversified portfolio should look like.

Today, wealth managers and fund selectors are increasingly seeking to manage uncertainties and market volatility through non-traditional means. In some cases, they are doing it by adding uncorrelated constituents, such as liquid alternatives – i.e. commodities, forex, or systematic strategies – to portfolios.

This makes sense. The integration of alternatives with traditional portfolio models can address the inherent limitations of the 60/40 split. For instance, employing systematic absolute return strategies can enhance diversification and manage risks more effectively. 

But the popularity of these funds and others has meant they have become victims of their own success – and that means fund selectors may not always be getting the outcome they want.

In the chart below, portfolios with a 20% allocation to alternatives are consistently positioned above and to the left of those containing only equities and bonds.

This indicates that portfolios including alternatives either provide the same return with reduced volatility, a higher return with the same volatility, or a combination of both higher returns and lower volatility.

How a 60/40 portfolio compares with adding alternatives

Source: Data sourced from C8 Technologies. Data from 2013 through 2024. Equities refers to MSCI ACWI Net Total Return USD Index. Bonds: iShares Core U.S. Aggregate Bond ETF. Alts: S&P Systematic Global Macro

Crowding

For the most part, fund managers rely on the same information (company news, financial statements, research reports, price and volume) and similar well-known strategies, which they use in similar ways – i.e. smart beta and off-the-shelf quantitative investment strategies (QIS).

Experienced investors in the wealth management sector have begun asking if the huge amount of capital running in similar QIS is starting to inhibit returns and risking a change in how uncorrelated they really are.

This, of course, is the opposite of what investors are seeking. Yet there remains broad enthusiasm for the concept of supplementing a portfolio of discretionary active funds with funds that are quantitative and systematic.

In our view, the best way for them to do this is use funds that combine strategies that come from as wide a source of quantitative research as possible. This is the basis behind the new breed of absolute returns funds – the ‘multi-strategy’ – which first gained prominence in the hedge fund world.

Adoption yet to take off

With so much data and technology available today – most of which was unavailable just a few years ago – it can be difficult for investors to determine how best to select and to combine strategies in a useful way, let alone find an investment edge.

It is partly why traditional absolute return fund portfolios are still dominated by classic strategies such as value, momentum and mean reversion.

Multi-strategy funds seek to solve this ‘blending’ problem for wealth managers by combining the multitude sources of alpha in an optimal way.

The key here is to be able to formulate at least a general hypothesis as to why value could be found in a quant strategy – whether that value comes from predicting stock prices, volatility, fundamentals, or something else.

The good news is that there is an abundance of potential alpha and genuine sources of uncorrelated returns. The key is to be able to vet and rigorously test these, which is where differences can emerge.

Asking the right questions

A big problem facing wealth managers is that the market is saturated with off-the-shelf QIS from wholesale providers such as banks. These often take existing systematic trades and repackage them into other products, giving investors easy exposure. But this means that strategies are often very similar to one another, with the provider adding little value.

When considering the large amount of capital that is running in these strategies, their efficacy is naturally limited due to crowding, rendering their backtests, which often look optically appealing, somewhat less compelling on a forward-looking basis.

Wealth managers seeking genuine multi-strategy funds should ask a few key questions. Does the provider do its own specialist research and development? What is its track record in building its own strategies and successfully combining them, using its own intellectual property? How does its track record compare to others?

Adding quant systematic strategies is a good complement to traditional discretionary funds. But it is important wealth managers really understand what they are buying.

Going forward, we expect more wealth managers to be attracted by the promise of improved overall portfolio risk and returns. But just as they seek to avoid active funds that are little more than closet trackers, they should choose carefully when selecting multi-strategy funds.

True multi-strategy funds have been successful in the hedge fund industry for good reason. And there are many reasons to think that, as more data about the physical and online world is collected, researchers will find ever more value in combining uncorrelated strategies to unlock returns.

Jonathan Dagg, portfolio manager at European and Global Advisers. The views expressed above should not be taken as investment advice.

Last week’s market sell-off was a frightful reminder of the risks that come with investing, but also of the extraordinary backdrop in which we find ourselves at present.

Investors have been living through an extended cycle of burgeoning returns that must be followed by a drawdown, according to James Harries, manager of the £657m Trojan Global Income fund.

Performance of fund against sector and index over 3yrs

Source: FE Analytics

Drawdowns, in fact, are one of the two main risks investors are facing today.

“Since the great financial crisis of 2008, investors have enjoyed remarkable returns from equity markets delivered over a very long period of time in the context of an extremely extended economic cycle. At some point, they are going to suffer a severe drawdown,” he said.

We are at “a very interesting juncture” at the moment, with “the most material and fastest-rising cost of capital and interest rates in 40 years”, paired with a US market that is still “as expensive as it's ever been”.

Harries sees today’s market as “a world extremes” – extreme concentration, investor exuberance, valuations and, when comparing US  earnings yield to bond yields, extremely low equity-risk premiums, “the lowest we've had for a very long time”.

“That is a time for caution”, he proclaimed. But the oddities don’t end there.

The fact that we now have a cost of capital is “great news and should be celebrated by investors”, who can get “decent” income on their money for the first time.

But there are risks attached to that as well, in fact the second biggest risk investors face today is reinvestment risk, or the possibility that the returns from an investment might yield less when allocated to a new investment.

This is because it is likely interest rates will come down at some point – although they may not go back down to where they were. As such, people will need to reinvest capital and face reinvestment risk, Harries explained.

He also lamented that we haven not had “an orthodox economic cycle” for years, whereby excessive inflation leads to rising interest rates, which in turn lead to an economic slowdown and finally to a new economic cycle that starts again.

“This hasn’t happened in at least 25 years, so it may have become unfamiliar to people,” he said. “But I don't think it's a given that interest rates coming down is necessarily going to be taken positively by investors. It may be because it's in the context of a slowing economy.”

If rate cuts don’t spur a bull run, the slowing-economy scenario would play directly into the manager’s hands, as the Trojan Global Income fund is designed defensively to provide below-average volatility.

And in his view, this is exactly what has been unfolding even beyond this week’s sell-off, as we've seen the US bond yield come down from about 4.4% to about 4%, the moves in the yen, oil and copper being particularly weak and the gold spot price strengthening.

We've also seen a rotation in equity markets away from some of the previous leaders (including US tech, a sector that is “fully valued”, as Harries recently told Trustnet) and towards some of the areas that he favours.

This, according to the manager “may be a glimpse of things to come”.

The UK unemployment rate unexpectedly fell to 4.2% between April and June, down from 4.4% in the previous quarter, according to figures from the Office for National Statistics (ONS).

Additionally, both employment rate and real wage growth rose modestly in this period, to 74.5% and 1.6% respectively, indicating an improved standard of living and greater spending opportunities. 

Neil Birrell, chief investment officer at Premier Miton Investors, said the labour market was “stronger than expected” with wage growth “pretty much in line” with expectations.

Danni Hewson, head of financial analysis at AJ Bell, added: “The headline unemployment rate might have come in significantly below expectations but there are still important indicators that the UK labour market is cooling.”

Indeed, both the unemployment rates and job vacancies remain higher than pre-pandemic levels and nominal wage growth has slowed, ending at just 5.4% for the period, the smallest increase since July 2022.

She said, “Even if unemployment is down, the employment rate is lower than it was a year ago and there’s still the thorny issue of economic inactivity, which has remained stubbornly stuck at 22.2%.”

While there are questions about whether these surprising statistics will cause the Bank of England to cut rates more aggressively, Hewson believed this was unlikely due to limited consumer confidence, pointing to things like rising grocery prices and the recent riots as reasons people may be spending less.

“Looking at updates from London listed recruiters, businesses are still cautious,” Hewson concluded.

Birrell, added that, although the UK economy is performing well, which will be a boost to the new government, “there probably isn’t enough in these numbers to change Bank of England policy for now”.

Mining has a reputation as a cyclical sector, expanding when economic growth is buoyant and slipping as economies contract. However, today, the dynamics of the mining sector are more complex and nuanced, with the energy transition, shifting geopolitics and even the artificial intelligence (AI) revolution changing the demand patterns for mined commodities.

Historically, commodity prices have moved with economic growth. Buoyant growth tends to lead to more investment in new buildings, machinery or products, all of which creates demand for materials, such as lithium, or copper.

Mining companies would often lean into that demand, creating new supply. However, too often, demand would then reverse as economies weakened, leaving mining companies with an excess. This created boom and bust cycles.

Today, the picture is different. The transition away from fossil fuels to low-carbon energy sources is creating new sources of demand. This transition is supported by vast government investment, including the Inflation Reduction Act in the US, the Joe Biden administration’s flagship climate legislation, which directed $369bn in clean energy tax credits and funding for climate and energy programs. In Europe, the RePower EU Plan also allocates significant funding for clean energy infrastructure.

There are new, structural sources of demand, which are not solely dependent on economic growth. This transition requires a huge range of mined commodities.

It is only through mining companies that there will be the copper needed for electrification, the metals needed to update electricity grids across the world, the lithium for use in batteries and the iron ore for the production of steel needed for wind turbines.

A recent report from the Energy Transitions Commission found that annual demand for lithium, which is necessary for batteries and electric vehicles (EVs), could increase by up to seven times by 2030. Copper demand is estimated to increase by around 50%.

It also points out that it takes many years to bring new supply on stream – up to 20 years for a new copper mine. This will bring steady, less-cyclical demand for certain critical commodities.

Geopolitical tensions are also shaping demand for commodities. There are multiple geopolitical pressure points across the world, which are pushing countries to achieve energy security and independence.

This is also helping to galvanise the energy transition, and pushing countries to spend more on energy infrastructure, with a knock-on effect for commodities.

Raw materials are needed to shape the future

Technological advances also require mined commodities to facilitate them. AI supremacy requires computing power, which is creating a proliferation of data centres. These require raw materials, from copper, silicon and lithium for the servers, to the aluminium and steel of the actual buildings that house them.

In a recent Turner and Townsend report, 95% of respondents said material shortages had caused delays to data centre construction over the past 12 months. As countries battle to achieve technological supremacy and harness data effectively, we are likely to see increasing competition for the resources that make this possible.

These changing demand dynamics come against a backdrop of constrained supply. While there are exceptions, most mining companies have not increased capital expenditure to the same level as in previous cycles.

Attempts to expand the supply of copper, for example, have been largely unsuccessful, while iron ore supply remains tightly controlled. Companies have been disciplined in their capex.

We are investing in companies producing those commodities with a favourable backdrop that transcends cyclical considerations. These are commodities where governments and companies are not just spending because the economy is expanding, but because changes are necessary for environmental protection, or to remain competitive in a changing world.

This means mining is not as dependent on economic growth as it has been in the past.

Olivia Markham is co-manager of the BlackRock World Mining Trust. The views expressed above should not be taken as investment advice.

Mining has a reputation as a cyclical sector, expanding when economic growth is buoyant and slipping as economies contract. However, today, the dynamics of the mining sector are more complex and nuanced, with the energy transition, shifting geopolitics and even the artificial intelligence (AI) revolution changing the demand patterns for mined commodities.

Historically, commodity prices have moved with economic growth. Buoyant growth tends to lead to more investment in new buildings, machinery or products, all of which creates demand for materials, such as lithium, or copper.

Mining companies would often lean into that demand, creating new supply. However, too often, demand would then reverse as economies weakened, leaving mining companies with an excess. This created boom and bust cycles.

Today, the picture is different. The transition away from fossil fuels to low-carbon energy sources is creating new sources of demand. This transition is supported by vast government investment, including the Inflation Reduction Act in the US, the Joe Biden administration’s flagship climate legislation, which directed $369bn in clean energy tax credits and funding for climate and energy programs. In Europe, the RePower EU Plan also allocates significant funding for clean energy infrastructure.

There are new, structural sources of demand, which are not solely dependent on economic growth. This transition requires a huge range of mined commodities.

It is only through mining companies that there will be the copper needed for electrification, the metals needed to update electricity grids across the world, the lithium for use in batteries and the iron ore for the production of steel needed for wind turbines.

A recent report from the Energy Transitions Commission found that annual demand for lithium, which is necessary for batteries and electric vehicles (EVs), could increase by up to seven times by 2030. Copper demand is estimated to increase by around 50%.

It also points out that it takes many years to bring new supply on stream – up to 20 years for a new copper mine. This will bring steady, less-cyclical demand for certain critical commodities.

Geopolitical tensions are also shaping demand for commodities. There are multiple geopolitical pressure points across the world, which are pushing countries to achieve energy security and independence.

This is also helping to galvanise the energy transition, and pushing countries to spend more on energy infrastructure, with a knock-on effect for commodities.

Raw materials are needed to shape the future

Technological advances also require mined commodities to facilitate them. AI supremacy requires computing power, which is creating a proliferation of data centres. These require raw materials, from copper, silicon and lithium for the servers, to the aluminium and steel of the actual buildings that house them.

In a recent Turner and Townsend report, 95% of respondents said material shortages had caused delays to data centre construction over the past 12 months. As countries battle to achieve technological supremacy and harness data effectively, we are likely to see increasing competition for the resources that make this possible.

These changing demand dynamics come against a backdrop of constrained supply. While there are exceptions, most mining companies have not increased capital expenditure to the same level as in previous cycles.

Attempts to expand the supply of copper, for example, have been largely unsuccessful, while iron ore supply remains tightly controlled. Companies have been disciplined in their capex.

We are investing in companies producing those commodities with a favourable backdrop that transcends cyclical considerations. These are commodities where governments and companies are not just spending because the economy is expanding, but because changes are necessary for environmental protection, or to remain competitive in a changing world.

This means mining is not as dependent on economic growth as it has been in the past.

Olivia Markham is co-manager of the BlackRock World Mining Trust. The views expressed above should not be taken as investment advice.

Bear markets such as the recent sell-off are when many active managers prove their mettle by avoiding risks and protecting investors’ capital. Indeed, this is often the reason people choose active managers in the first place – to have an experienced hand at the tiller when markets look their scariest. After all, when skies are sunny and stock markets are heading higher, a passive tracker can capture all the upside.

To that end, Trustnet looked at the downside capture ratios of funds in the IA Global Equity sector to discover which ones fell by half as much – or less – as the MSCI All Country World Index when it dipped during the past three years. A score of 100 means the downside was equal to that of the MSCI ACWI, so we have filtered for funds with a score of below 50.

This period captures the bear market of 2022, and the July sell-off. The data does not include this month’s volatility.

Global equity funds offering downside protection

Source: FE Analytics; the downside capture ratios span the three-year period to 31 Jul 2024

However, the holy grail for fund selectors is arguably to find a manager who can shield investors from the vagaries of stock market volatility yet still participate in most of the gains when momentum takes hold.

By looking at funds’ upside capture ratios, Trustnet found five strategies offering downside protection that also managed to capture at least 70% of the benchmark’s upside when it rose. As well as the dips mentioned above, the three-year period also includes positive times such as the recovery in 2023 and the strong gains during the first half of 2024.

Funds’ annualised upside and downside capture ratios over 3yrs

Source: FE Analytics, data to 31 Jul 2024

Ranmore Global Equity, the strongest performer of the group, was the only fund that added alpha in both up and down markets, with an upside capture ratio of 112.8.

Nonetheless, all five funds beat their sector average by a wide margin and also outperformed both the MSCI World and MSCI All Country World indices.

Performance of funds vs sector and MSCI World over 3yrs

Source: FE Analytics, data to 31 Jul 2024 in sterling terms

Below, Trustnet looks at the five funds in detail.

Sean Peche’s $307m Ranmore Global Equity fund protects against downside risk through diversification and by focusing on valuations. It is also a strong performer, clocking up the third-best returns in the IA Global sector for the three years to 7 August 2024 (61.5% versus 10.4% for the sector in sterling terms).

Simon Evan-Cook, a fund manager at Downing, described Peche as a contrarian investor who is “happy to invest in stocks and industries that are hated by other investors”.

Peche is not afraid to recycle cash into opportunities with a greater upside and therefore his holding period is shorter than most managers, which suggests he is getting the timing right for when companies’ share prices will correct, Evan-Cook said.

The next-best performer on the list was the £2.6bn GQG Partners Global Equity fund. It is the seventh best performer in the IA Global sector over three years and second over one year to 6 August 2024. It has not experienced losses in any calendar year since its launch in 2019.

FE fundinfo Alpha Managers Rajiv Jain, Brian Kersmanc and Sudarshan Murthy endeavour to outperform by minimising losses. One way they do that is by working with GQG’s non-financial analysts whose backgrounds span journalism, accounting and private equity, and who are adept at spotting risks.

Kersmanc said the fund’s investment philosophy has three pillars: a long-term focus, quality bias and capital preservation.

An important element of GQG Partners’ culture, he continued, is prohibiting fund managers from having personal trading accounts. They are only permitted to invest in GQG strategies or broad-based indices, so their interests are aligned with clients. “Half of my own personal savings are invested alongside our clients,” Kersmanc said.

The AllianceBernstein Low Volatility Global Equity fund is also helmed by an Alpha Manager, Kent Hargis. This strategy aims for lower volatility than the MSCI World and to reduce losses when global equity markets decline.

Yet, despite the defensive nature of the strategy, Hargis has achieved top-quartile performance over one and three years. He selects stocks that are attractive based on quality, stability and price and the fund’s top 10 holdings include Microsoft, Broadcom, Apple, Shell and Novo Nordisk.

Next, Robeco BP Global Premium Equities is managed by Christopher Hart, Joshua Jones and Soyoun Song at Boston Partners. The €4.5bn all-cap value fund focuses on companies with attractive valuations, solid business fundamentals and identifiable catalysts.

Its largest holdings are Samsung Electronics, JPMorgan Chase and Siemens, which account for about 2% of the portfolio apiece. Amgen and United Overseas Bank joined its top 10 holdings in June 2024, replacing Airbus and Rheinmetall.

Performance in recent years has diverged considerably from the MSCI World. The fund lagged significantly during the first half of this year – a strong bull market – and last year, but it played defence with aplomb in 2022, returning 2.4% versus the benchmark’s losses of -12.8%. It matched the market’s strong returns in 2021 but lost money in 2020 when the benchmark was in positive territory.

Quilter Investors Global Unconstrained Equity also made the grade, although this is a white-labelled fund run by Royal London Asset Management’s (RLAM) global equity team. Several members of that group left recently to establish their own boutique so the fund has passed to Mike Fox, RLAM’s head of sustainable investments. Quilter is reviewing the fund but does not plan to make an immediate switch.

Interest rate cuts don’t come about that frequently – at least not to the extent the market is expecting today. The heightened volatility of the past week also contributes to leaving investors with unanswered asset allocation and fund selection questions.

To help with the uncertainty, experts at interactive investor (ii) share below their favourite stocks, bonds and funds that might benefit from a rate-cutting cycle.

Funds and trusts

The fund research team at ii had “plenty of suggestions to shout about”, but analyst Tom Bigley settled on the Artemis Income fund.

This £4.8bn strategy, led by FE fundinfo Alpha Manager Adrian Frost, is a “flexible, high conviction portfolio” of UK large-cap stocks selected for providing a steady and growing income along with capital growth over five years.

Its “highly experienced team” has consistently applied a “sensible, tried-and-tested approach” that made it “one of the most highly regarded in the sector”, according to Bigley, who particularly admired the clear mantra of “cash flow first and dividends second”.

“In short, they prefer to hold companies that can consistently generate strong cashflows, which is key to fuelling the dividend that shareholders receive,” he explained.

“The fund is unlikely to significantly underperform or outperform over shorter-term periods, however, the consistency of approach has delivered strong returns over the long term.”

Performance of fund against sector and index over 5yrs

Source: FE Analytics

Analyst Alex Watts suggested more interest-rate-sensitive sectors can be expected to perform well in the context of cuts to central bank rates, so he went for the TR Property Trust.

This £1bn Columbia Threadneedle investment company is “well suited to access the yields from real estate”. It is led by Marcus Phayre-Mudge, who takes a hybrid approach to pan-European property securities and can allocate 15% to physical property (7% currently).

It yields 4.6%, far surpassing its benchmark, and has an “impressive” record of growing the distributions year-on-year. Because it is “prudently managed” it has a “healthy” reserve to deal with potential earnings shortfalls and continue to pay income in down years too.

“Given property sector stress in 2022, the trust has a negative return over three years. However, the long-term track record is stellar, returning just under and just over 3% in excess of its benchmark over 10 and 15 years respectively,” Watts said.

“With REITs having been under a lot of pressure recently, an active and risk-managed approach is a good way to tap into the yield and potential upside for the sector.”

Performance of trust against index over 5yrs

Source: FE Analytics

Stocks and bonds

Within the FTSE indices, only two stocks overcame the hurdles of a high yield, adequate cover, an acceptable share price performance and a positive market consensus on prospects, set by Richard Hunter, ii head of markets. These were British American Tobacco and HSBC.

While there are other companies that have better dividend yields, the headline figure isn’t the be-all and end-all in this context.

For instance, Vodafone's dividend yield stands at 11.1%, yet its shares have dipped 6% over the past year and 43% across the past two years, he noted.

In addition, punchy and attractive dividend yields should always be looked at in the context of the company’s dividend cover.

“This is important because, all things being equal, if a share price falls the dividend yield will rise. A seemingly healthy dividend yield could, therefore, be the result of a falling share price – and a company which is potentially in trouble,” Hunter said.

Finally, Dzmitry Lipski, head of funds research, was sold on short-dated high-quality government and corporate bonds, given their yields, and suggested accessing them through the Jupiter Strategic Bond.

The fund is managed by “highly experienced managers” Ariel Bezalel and Harry Richards, supported by the wider, “well-resourced” fixed income team at Jupiter.

Approximately 60% of the portfolio is allocated in corporate bonds, and more than 20% in government bonds. – for a total yield north of 4%.

“The fund has shown strong performance and resilience over the long term and provides an attractive yield,” said Lipski.

“Given the fund’s flexibility and focus on downside protection, this makes it a strong core option for investors within a well-diversified portfolio.”

Performance of fund against index over 5yrs

Source: FE Analytics

Just 18% of high-earning households are on track for a comfortable retirement, research by Hargraves Lansdown has found, forcing people to make tough decisions about investing for their future.

Data from the recent Savings and Resilience Barometer has found that the average income needed for a “moderate retirement” is around £25,000 per year for a single person or £36,840 for a couple, but this will not be good enough for many couples.

Helen Morrissey, head of retirement analysis at Hargreaves Lansdown, said: “Well over two-thirds of the highest earning households are on track for a moderate retirement income. On the face of it this looks good but dig a bit deeper and there’s a nasty shock in store”.

Higher earners are used to spending much more than this, meaning the actual cost of a comfortable retirement will be much higher.

According to updated estimates, the average cost of a “comfortable retirement” would be £38,662 per year for a single person, rising to £58,840 for a couple. Just 39% of higher earners are on track to meet this target, with less than 20% of overall households expected to reach this £58,000 goal.

Given this, the investment platform outlined several changes that could help people build their retirement resilience.

Firstly, savers should try to increase their pension contributions over time, particularly after pay rises, with higher earners benefitting from up to 45% in tax relief.

In line with this, Morrissey recommended that earners contribute any bonus pay into their pensions, which can prove effective if their employer adds further national insurance savings.

Other measures such as checking if an employer will match an increased pension contribution, can get earners much closer to a more comfortable retirement.

Additionally, savers must plan for their retirement, Morrisey said. Estimates on retirement incomes are just averages, with the actual cost being a “hugely personal thing and will look different to everyone”.

By creating income targets, people can determine what gaps in their pensions need to be filled, allowing them to determine how best to approach saving for their retirement.

Once savers have planned out their retirement, tools such as pension calculators allow earners to stay on track, and make sure they are receiving the retirement income they need.

Japanese stocks have corrected by more than 20% from their recent peak on 11 July 2024, while on Monday 5 August the market suffered its worst single-day slide since Black Monday in 1987, although it recovered in subsequent days.

Nicholas Price, portfolio manager of Fidelity Japan trust believes the “short-term unwinding of positions has gone too far” and is taking advantage of the indiscriminate selling.

“Some semiconductor-related and small-to-mid-cap growth stocks have become oversold and I have been selectively buying at the margin while reconfirming fundamentals with our analysts,” he said.

Meanwhile, as the likelihood of additional rate hikes by the Bank of Japan has diminished, he has slightly reduced his positions in bank stocks.

Carl Vine, manager of M&G Japan and M&G Japan Smaller Companies, is looking for “baby-with-the-bathwater” situations as well as ways to “add portfolio beta”.

“We have added to some names where undue selling was seemingly illogical and related purely to contagion. We have also tilted modestly away from defensive names towards names being sold indiscriminately,” he said.

“With weak hands seemingly flushed out in recent days, the price one must pay for ownership in Japan has shrunk despite robust fundamentals. We believe that Japanese equities represent an attractive, structural investment opportunity with an asymmetric prospective payoff profile.”

Year-to-date performance of Nikkei 225 and TOPIX in yen terms

Source: FE Analytics

Evaluating the events of the past week, Price said there were distinct phases within the selloff. First, in the immediate aftermath of the Bank of Japan’s rate hike, banks rallied but exporters lost ground amid a strengthening of the yen.

Then on Friday 2 August, year-to-date winners sold off as investors took profits from financials, global cyclicals and tech stocks. This was followed up on Monday 5 August with a sharp correction in financials and commodity-related sectors.

“Defensive and domestic-oriented segments of the market have held up relatively well in comparison,” he said. “In terms of style, there has been a clear rotation from value to low-vol and oversold quality.”

Overseas investors were net sellers of Japanese stocks in the second half of July and the unwinding of speculative positions has accelerated.

However, selling activity was primarily driven by systematic hedge funds and managed futures strategies rather than long-only investors, Price pointed out. Vine added that long/short equity managers unwound their exposures particularly rapidly.

The confluence of the Bank of Japan hiking while the US Federal Reserve took a dovish stance “reverberated through FX markets” as the yen started to strengthen. “As this unfolded, short-term and aggressive volatility-contagion ensued,” Vine said. “Japanese equities were at the tip of this spear, but regional equities across Asia also experienced ripples.”

Masaki Taketsume, who manages Schroder Japan, agreed with this analysis. “Clearly, the market turmoil was triggered by the sharp appreciation of the yen, therefore, exporters (cyclical sectors such as auto and machinery) suffered most while domestic-oriented sectors performed okay,” he said.

“The market also faced huge selling pressure for profit taking, so the past outperformers including technology and financials were hit severely. On the other hand, defensive sectors such as pharmaceuticals and telecoms held up well.”

Taketsume is not making significant changes based on market turbulence and said his portfolio maintains its bias towards value, small- and mid-cap, and domestic exposures.

Vine also argued for stoicism. “Despite unusual volatility, sentiment on the ground in Japan has been relatively calm,” he said.

“The Japanese economy continues along its path of structural improvement. Stock market earnings remain solid thanks to genuine self-help and ongoing structural reform of business models and capital policies. Earnings grew some 12% in the past financial year and earnings in the current fiscal year appear to be off to a strong start.”

Price concurred. Once the selling has run its course, he expects fundamentals and valuations to come back into focus. The Tokyo Stock Exchange’s corporate governance reforms, including measures to enhance capital allocations and tackle low valuations for all listed companies, continue to provide a tailwind.

“We believe that Japan’s economic shift to moderate inflation and its impact on spending and investment decisions by households and corporates, combined with steady progress in governance reforms, represent multi-year structural trends that are supportive of Japanese stocks over the longer term,” he said.

“Companies that are committed to balance sheet change by optimising their capital structures, enhancing cash allocation and payout policies, and eliminating idle assets and cross shareholdings, offer attractive opportunities for investors.”

The recently concluded fiscal 2023 reporting season included “a notable jump in share buybacks”, resulting in a significant increase in total shareholder return yields for some of the Fidelity Japan trust’s holdings.

“Through our engagements, we are seeing growth and mid-cap companies become more active in their shareholder returns. Given that mid/small-caps have a large presence both in absolute numbers and proportion that trade below book value, there are grounds for optimism,” Price said.

‘Smid’-caps account for around 90% of the TOPIX universe but “almost all smaller companies have little or no street coverage and around 60% of mid-caps have limited coverage”, he said. This can create “extreme mispricings” and Japanese mid-caps are currently trading at a “steep” price-to-book discount to large-caps.

Naoki Kamiyama, chief strategist at Nikko Asset Management, also remains positive. “The narrative of Japan fully shaking off deflationary pressures thanks to rising real wages is still intact. Latest data showed that wages are continuing to rise, which is leading to increased consumption,” he said.

Even though the Nikkei has essentially gone back to where it started 2024, its current level is “a toe-hold for a path back to recovery”.

Asia is the only region where it makes sense to use defensively-positioned equity managers, according to Ernst Knacke, head of investment research at Shard Capital, making a cautious and aggressive pairing worthwhile in the region.

In Asia, both defensive and higher-octane growth managers have a decent chance of outperforming their benchmarks in all market conditions, whereas in Europe, the US and the UK, cautious managers tend to lag in rising markets.

Knacke said that, in Asia, defensive-orientated strategies can deliver a lot of alpha because of favourable demographic trends.

For instance, the $702m Prusik Asian Equity Income fund invests in infrastructure, telecommunications and transport companies whose underlying cashflow streams are growing in the high single-digits or low double-digits due to population expansion, whereas their counterparts in the West might be considered “ex-growth”, he explained.

Therefore, value managers in Asia who invest in high-quality companies but bake in a margin of safety by focusing on valuations can deliver strong returns in rising markets, as well as protect on the downside during volatile periods.

That is not the case in developed markets, he asserted, so from a portfolio construction perspective, this begs the question of whether it is worth investing in defensive equities at all, outside of Asia.

Equity markets tend to rise more often than they fall, so it makes sense to invest in strategies that capture all the upside. Conversely, “if we’re going to go into a bear market, why own equity at all? Why not just buy long-duration Treasuries or volatility-type products?” he argued.

“We do believe that in Asia, there is a good argument for owning a defensive and an aggressive manager, meaning something that is low beta through the cycle and something that is high beta because you can generate very meaningful alpha with both approaches so that your total return through the cycle is well above that of the benchmark.”

Knacke offsets Veritas Asian, which has a long-term beta slightly below one and generates most of its alpha in rising markets, with Prusik, which shines during downturns.

Nick Wood, head of fund research at Quilter Cheviot, follows a similar approach, also using Veritas Asian alongside Stewart Investors Asia Pacific Leaders Sustainability.

Performance of funds over 5yrs vs sector and benchmark

Source: FE Analytics

Ezra Sun, who runs the $2.4bn Veritas Asian fund, focuses on long-term themes and gravitates towards higher growth stocks.

Wood said: “Whilst historically the fund has held a significant amount in China, more recently it has shifted towards South Korea, in part following the recent focus on corporate governance and the ‘value up’ programme.

“The manager has struggled somewhat of late, but we believe now is a reasonable time to invest in a manager with a strong long-term track record.”  

For Knacke, Veritas Asset Management’s experienced management team and analysts are its key competitive advantage, which he believes is sustainable because their interests are aligned.

Shard Capital counterbalances Veritas Asian with Prusik Asian Equity Income, which has a value tilt. It invests in companies paying dividends of 5-10% with the cashflow to support dividend growth of 5-10%.

“You can get these compounders that grow, mainly because of demographics, through the cycle, even with this more defensive bias,” said Knacke.

The decade from 2010 to 2020 was a bull market and Prusik delivered “extraordinary returns”, he said, “but when it really came through was when there was market volatility and big drawdowns.”

The MSCI Asian Pacific ex-Japan index fell 8.2% in sterling terms from 11 July to 5 August. Prusik was more or less flat whereas Veritas, as expected, was down 7.7%. Prusik also preserved capital during the growth sell-off of 2022, as the chart below shows.

Prusik has a downside capture ratio of just 39.2 for the three years to 31 July 2024, meaning that if the MSCI Asia Pacific ex-Japan index fell by, say 5%, Prusik’s fund would slide about 2%.

Performance of funds over 3yrs vs sector and benchmark

Source: FE Analytics

Quilter Cheviot’s defensive fund pick, the £6.5bn Stewart Investors Asia Pacific Leaders Sustainability fund, is managed by David Gait and the Sydney-based sustainability team at Stewart Investors.

The portfolio typically has 50 to 60 holdings in high-quality, medium-to-large companies across the Asia Pacific region that are positioned to contribute to and benefit from sustainable development.

“The fund is biased towards the highest quality companies and has significant positions within Healthcare and Consumer Staples, whilst the team has focused much more on India than on China. The fund is a naturally more defensive proposition, albeit it has been able to take advantage of the strong run in India of late,” Wood explained.