China was the main place to be invested in September, according to monthly performance figures from FE Analytics, with Chinese funds and trusts making more than three times the next best peer group.

The country has been in the doldrums for much of the year, with the MSCI China index moving sideways from January to mid-September. But it rocketed higher over the past two weeks after fresh stimulus from the government propelled the market.

The People’s Bank of China (PBOC) freed up around 1trn yuan in long-term liquidity by reducing the reserve requirement ratio for banks by 0.5 percentage points, allowing them to lend more and support the economy. It also reduced interest rates by 0.2 percentage points and lowered existing mortgage rates by 50 basis points.

Ben Yearsley, director at Fairview Investing, added: “There is also the possibility of some helicopter money at some point and the PBOC will essentially lend to banks and brokers to invest in the stock market.”

These measures triggered the best week in nearly a decade at China’s stock exchanges towards the end of the month, propelling all assets invested in the region, as well as ancillary benefactors such as Europe, which relies heavily on exports to the country.

IA China/Greater China topped the best performing Investment Association (IA) sectors last month, up some 16.3%, while IT China/Greater China did even better, with the average trust in the Association of Investment Companies (AIC) peer group up 22.9%.

The top five IA sectors last month were dominated by the news, with IA Asia Pacific Excluding Japan in second with an average gain of 5.3% for its funds. It was followed by IA Global Emerging Markets, IA Asia Pacific Including Japan and IA Global EM Bonds Local Currency.

Source: FE Analytics

In the trust space, however, it was another asset class that caught the eye: property. Part of this could be because investors have finally agreed that inflation is now under control.

“Base rate cuts and a taming of inflation has led to investors rediscovering property as an asset class,” Yearsley noted.

In the UK, the consumer prices index (CPI) was flat in August at 2.2%, while in the US, one key measure of inflation fell from 2.9% to 2.5%.

Perhaps surprisingly, US funds and trusts failed to break into the top performers of the past month despite the Federal Reserve cutting rates for the first time in four years.

“The 0.5 percentage point cut was a bit of a surprise having only been trailed a week or two before. However, the US consumer continues to defy belief with retail sales increasing by 0.1% in August,” said Yearsley.

He suggested this could be because markets had previously priced in heavy rate cuts this year, before tempering their expectations. It is worth noting that the S&P 500 hit its 43rd record high of 2024 during the month.

Yearsley suggested, however, that the US rate cut may have been the key driver for the Chinese stimulus package. If true, this would make it indirectly responsible for the gains in Asia.

“China will occupy many column inches this month, but the Fed pivot was surely the catalyst. Without the slightly surprising 0.5 percentage point cut in September would Beijing have countenanced its multi-faceted approach? Will authorities there now wait for the next Fed cut, probably in November, before unleashing further measures?” he said.

Turning to individual funds, the roll call of top performers was dominated by China. It is the first time that the top 20 funds in the list below have all come from the same asset class.

Topping the table was Redwheel China Equity with an impressive 30.2% rise, while Matthews China was up 30.1%. These were the only two on the list to cross the 30% threshold, with the remaining 18 making gains of between 20% and 27.1%.

Source: FE Analytics

Among investment trusts, JPMorgan China Growth & Income, Fidelity China Special Situations and Baillie Gifford China Growth all made more than 20%, leading the way.

At the other end of the spectrum, it was a poor month for UK funds, with the IA UK Smaller Companies, IA UK All Companies and IA UK Equity Income sectors all among the worst performers in September.

Market commentators are expecting a tough autumn Budget from chancellor Rachel Reeves later this month, while the Bank of England was the only of the major three central banks to opt against cutting rates in September.

Additionally, the Office for National Statistics has revised down GDP, with the second quarter growth this year reduced by 10 basis points to 0.5%.

Yearsley said: “The pace of growth has faltered with [Keir] Starmer and Reeves being blamed for talking the UK down. Growth has now stalled for two months, and the third quarter could see no growth at all.

“UK flash PMI fell from 53.8 in August to 52.9 last month. At the same time, borrowing has overshot with debt to GDP now over 100% for the first time since the 1960s.”

IA Healthcare however took the top spot, with the average fund down 4.5%, while in the trust space, IT Latin America led the way lower, losing 5.2% on average.

In terms of individual funds, Liontrust Russia propped up the standings down 8.6%. “There didn’t seem any particular reason except the ongoing/never-ending war in Ukraine,” said Yearsley.

“The only real theme was UK micro-cap funds, especially those exposed to AIM. Rumours abound that the chancellor will remove the IHT break from AIM shares, which would be a devastating blow to the junior market and at complete odds with the Labour Party’s promise to be pro-growth.”

Energy funds also featured near the foot with the oil price falling near the $70 mark over the course of the month.

Global equities appeared to make little progress over the third quarter of 2024, data from FE fundinfo shows, although a closer look shows that plenty was going on just below the surface.

The MSCI AC World posted a slight gain over the past three months, after a V-shaped journey that saw the index slump on worries over the health of the global economy, lofty valuations among tech stocks and the unwinding of the yen carry trade.

Things then turned around with the publication of better economic data and the Federal Reserve making a 0.5 percentage point cut to interest rates. The recovery was then cemented when China launched an aggressive stimulus package, which  ranged from rate cuts to fiscal support.

Below, Trustnet looks in closer detail at how markets moved over 2024’s third quarter.

Performance of asset classes in Q3 2024

Source: FinXL

As noted above, global stocks performed mutedly, with the MSCI AC World making a total return of just 0.5% in sterling terms. This reflects a volatile quarter where concerns about a global slowdown and the unwinding of the yen carry trade weighed heavily on investor sentiment. However, the Fed’s rate cut and China’s stimulus in September helped stabilise markets towards the end of the quarter.

In comparison, global treasuries and cash in sterling performed better, delivering respective returns of 1.5% and 1.3% as investors sought safety in these assets amidst a mixed economic outlook. The anticipation of peak interest rates and concerns about economic stability led to a continued preference for lower-risk assets like government bonds and cash, while bonds were the beneficiaries of the Fed’s rate cut.

Commodities fared the worst, however, with a decline of 10.7% in the broad S&P GSCI index. Slowing growth in China put pressure on commodity prices during the quarter.

Performance of geographies in Q3 2024

Source: FinXL

Chinese equities – which have struggled for an extended period – were the standout performers of the quarter, with a 16.4% gain in the MSCI China index fuelled by the large-scale stimulus measures. These policy actions, aimed at spurring economic growth after a period of stagnation, sparked investor optimism, particularly in technology and consumer-driven sectors.

In contrast, the Nasdaq 100 fell by 4.3% as investors became increasingly wary of high valuations in US tech stocks and macro uncertainty. After several years of outperformance in technology and ‘new economy’ stocks, the market began to broaden out and shifted attention towards ‘old economy’ sectors in 2024’s third quarter, reflected in the modest rise in the Dow Jones.

Performance of investment factors in Q3 2024

Source: FinXL

High-dividend yield and low-volatility stocks led the market as investors sought stability amid global economic uncertainties. Income stocks were favoured with investors looking for strong dividends as bond yields fall alongside interest rates.

On the downside, quality, growth and momentum stocks underperformed. This shift reflects investor caution around high-growth areas after several years of outperformance.

Performance of industries in Q3 2024

Source: FinXL

Utilities led the stock sectors in the third quarter with a 9.7% return, thanks to investor interest in defensive sectors amid economic uncertainty. These companies also tend to pay reliable dividends, which are tied to the demand for income noted above.

At the other end of the spectrum, energy stocks struggled with a decline of 7.8% on the back of weaker demand and falling oil prices. Information technology also experienced losses, falling by 4.7% in the broader market rotation away from high-growth sectors.

Performance of commodities in Q3 2024

Source: FinXL

Although commodities in general fell over the quarter, cocoa prices rose 18.2% while coffee was up 15.7%, following supply shortages and increasing demand. Lean hogs also performed well and gold climbed 6.4%.

Conversely, energy prices declined sharply, with heating oil down 20.6%, gas oil falling 19.8% and WTI crude off 17.9%. These losses were driven by a combination of lower demand, particularly as economic growth slowed in key regions like China and Europe.

Performance of IA fund sectors in Q3 2024

Source: FinXL

When it comes to the Investment Association fund sectors, IA Property Other led the way with a 9.1% average return as falling interest rates made property investments more attractive.

The average IA China/Greater China fund gained 8.8% thanks to the stimulus package unveiled by Beijing. This represents a significant turnaround as Chinese equity funds were consistently at the bottom of the performance rankings because of slowing growth and recent regulatory crackdowns.

On the other hand, the IA Technology and Technology Innovations sector fell 4.4% over the quarter. This underperformance reflects broader market caution around high-valuation tech stocks, a recurring theme during the quarter as investors rotated into more defensive sectors.

A new investment vehicle by Ark Invest, the investment management firm founded by Cathie Wood, is now available on the eToro platform.

Called Ark Future First, it focuses on companies across technology, healthcare and sustainability, accessing them via seven of Ark’s exchange-traded funds (ETFs).

The largest allocations are to the Ark Artificial Intelligence and Robotics ETF (28.6%), followed by Ark Innovation (25.8%) and Rize Cybersecurity and Data Privacy (12.7%). These positions give investors access to “transformative growth opportunities” in artificial intelligence and blockchain.

There are three sustainability names: Rize Global Sustainable Infrastructure; Rize Environmental Impact; and Rize Sustainable Future of Food.

Finally, Ark Genomic Revolution targets the gene editing revolution, which is enabling “personalised medicine, early disease detection and more effective treatments”.

These three areas are poised for “transformative growth”, according to founder and chief executive officer of Ark Invest Cathie Wood.

Gil Shapira, chief investment officer at eToro, said through the Ark Future First portfolio investors can “seek growth through truly long-term, cross-sector trends that are predicted to not just shift markets but the world for decades to come”.

Growth funds have been outperforming their value peers so far in 2024 and two formerly popular options are on the rise once again.

Alexis Deladerriere, Nathan Lin and Jennifer Sullivan’s GS Global Millennials Equity Portfolio invests in companies that play into what younger generations enjoy, such as social media and the internet, with top holdings including Apple, Meta and Amazon.

WS Blue Whale Growth, meanwhile, is managed by FE fundinfo Alpha Manager Stephen Yiu and is a concentrated portfolio of 26 companies that he believes are “high-quality businesses”. Examples in its top 10 include Flutter, Nvidia and Visa.

Despite their different methods, they have had similar trajectories. Both have made top-quartile returns so far in 2024 and were above the average IA Global fund in 2023, but struggled in 2022, sitting in the fourth quartile with 31% and 27.6% losses respectively.

Performance of funds vs sector and benchmark over YTD

Source: FE Analytics

They have a correlation over the past six months of 0.99 (a score of 1 means they have moved identically) and 0.9 over the past year. This widens slightly over longer periods to 0.83 and 0.84 over three and five years, although both have a correlation of 0.9 to the MSCI All Countries World index over the past half a decade.

The funds have around £1bn in assets under management and more than 50% of their portfolios in their top 10 positions, but for Tom Sparke, portfolio manager at Progeny Asset Management, Blue Whale could provide greater diversification.

While both have delivered “very good returns for their long-term supporters” and are “true to their remits”, containing “exactly the kind of stocks that one might expect to see”, he noted that the Global Millennials fund encompasses more of the most familiar mega-cap names in typical US and global funds so overall.

“Looking at these top holdings, the Global Millennials fund encompasses many more of the most familiar mega-cap names in typical US and global funds so overall, if you are looking to diversify your holdings, then Blue Whale would provide greater diversification,” he said.

Ben Yearsley, director at Fairview Investing, agreed that Blue Whale was the preferred choice, noting he generally likes boutiques over the large fund management groups.

“Purity of process and clarity of decision making makes boutiques compelling in my mind,” he said. In the case of Blue Whale, it has one product that has delivered “decent results” over its life and the team are focused solely on this.

While 2022 was “tough” as the high-growth stocks that had boomed during the era of low interest rates tumbled, Yearsley said Yiu “took that  as an opportunity to re-look at the process to see if it was fit for purpose”.

“Largely it was, he concluded, but he made some tweaks that meant going forward he wasn’t so reliant on the uber-high growth stocks. I like this kind of honest appraisal.”

Not all agreed, however. Jason Hollands, managing director of Bestinvest, said Blue Whale can be more opaque than its peers. For example, although it lists the top 10 holdings in its monthly factsheets, it omits the position sizing.

“This isn’t helpful,” said Hollands. However, investors can see that 45% of the concentrated 26 stock portfolio is in technology positions and a further 7.8% in communication services, which “probably explains the strong performance over the past couple of years”. 

The Goldman Sachs fund also has big positions in tech (26%) and communication services (26%), but another notable theme is 24% in consumer discretionary stocks.

Its top 10 includes big positions in a number of the artificial intelligence (AI) related darlings, including Nvidia, TSMC, Meta, Alphabet, Amazon and Apple and is a slightly more globally diversified with 61% in the US, versus Blue Whale Growth which is 75% invested in US stocks.

“Personally, I wouldn’t buy funds with heavy positioning in tech and AI names given currently frothy valuations, but If I had to invest in one of these two I would have a marginal preference for the Goldman Sachs product given better disclosure and slightly more diversification,” he said.

However, he recommended investors interested in these funds look at Brown Advisory Global Leaders, a 30-40 stock portfolio of mostly large-cap companies.

“Its investment philosophy is focused on high-quality, cash-generating businesses delivering positive and sustainable returns on capital and holding them for the long term. Diversification across sectors and geographies is important, with the portfolio typically having 40% outside of the US. Currently US exposure is 43%,” said Hollands.

It sits in the second quartile of the IA Global sector so far this year but its drawdowns in 2022 were far less severe.

Performance of funds vs sector and benchmark over 5yrs

Source: FE Analytics

It is a better performer than both over three years although lags the Blue Whale fund over five years, as the above chart shows.

Investment trusts are charging unfair fees, according to Hawksmoor Investment Management’s Ben Conway.

Most fund managers and investment advisers base their fees on the net asset value of investment trusts’ underlying portfolios, but for trusts holding hard-to-value private assets, those valuations are subjective and can fluctuate wildly, he argued.

Conway, who is Hawksmoor’s chief investment officer, thinks it would be fairer for all investment advisers to charge fees based on a trust’s market capitalisation to align their interests with shareholders.

“Calculating fees as a percentage of a valuation figure that is so clearly subjective is simply a nonsense and creates horrific alignment issues for shareholders,” he stated.

Investment trust fees have been a hot topic of late, following their recent exemption from European Union cost disclosure rules. Conway’s argument concerns an unrelated point, however – whether charges themselves are fair, not how they are disclosed.

To illustrate his point he described two investment trusts whose portfolios have been written down recently – Gresham House Energy Storage and Digital 9 Infrastructure – causing shareholders to wonder whether the investment managers have been charging fees based on inflated valuations.

Gresham House Energy Storage (GRID) announced a material write-down to its NAV on 9 September after replacing one of the two third-party consultants it uses to calculate its NAV. The new firm used lower revenue forecasts for the trust’s batteries than the previous consultant.

“The fact that GRID switched from one provider to another – both doing the same job, looking at the same information and yet coming up with different forecasts – shows how subjective this analysis of revenue forecasts is,” Conway said.

“In GRID’s case, the natural question for shareholders to ask is: have they been overcharged during the period when a more aggressive provider of revenue assumptions was used?”

The board of Digital 9 Infrastructure, meanwhile, announced a provisional NAV of 45p per share on 6 September – a 43.2% reduction from the December 2023 NAV.

The trust’s assets rely on future capital investment to fund their expansion, making them hard to value. “Fees on an NAV that is subject to such a huge and sudden revaluation is just not acceptable,” Conway argued.

“For any asset where there is scope for subjectivity or sudden revision due to external factors, fees must be levied on market cap,” he continued. Otherwise, “the scope for misalignment between the investment adviser and the shareholder is too great”.

Furthermore, with many trusts trading at wide discounts to their net asset values, the returns experienced by shareholders are intrinsically linked to the trusts’ market capitalisations and share price – but bear a more distant relationship to the underlying portfolio’s NAV.

Three-quarters of investment trusts base their fees on NAV. This is a bigger problem for trusts invested in alternative assets given that their NAVs are calculated less frequently and subject to greater mark-to-market revisions. Nonetheless, Hawksmoor would like to see all trusts switching to fees calculated on market cap, even equity-oriented trusts whose portfolios are easy to value, to ensure alignment with shareholders.

Currently, 8% of investment companies (excluding venture capital trusts) charge on a market cap basis, according to the Association of Investment Companies (AIC). 

Bellevue Healthcare (BBH) is one example, said William Heathcoat Amory, managing partner at Kepler Partners. "We like this feature, as it incentivises the manager to see the shares trade close to NAV and aligns their interests more with those of shareholders. BBH’s fee of 0.95% is also lower than the 1.25% weighted average for the AIC Biotechnology & Healthcare sector and there is no performance fee," he said.

James Carthew, head of investment companies at QuotedData, has a different perspective. "Our stance has always been that the best fees are based on the lower of market cap and net asset value," he said. Just 4% of investment trusts do this currently, according to the AIC.

Meanwhile, WhiteOak Capital Management, which manages Ashoka India Equity and Ashoka WhiteOak Emerging Markets, has pioneered another approach. It does not charge a fixed management fee at all but instead levies a performance fee on a three-year cumulative alpha basis.

Founder Prashant Khemka said: “We only get paid if we outperform. The alignment of interest is strong because we can't just sit on our laurels and expect to get paid.”

Reading some fund sales literature, you might think that it is possible to invest successfully in emerging markets only by being some sort of Indiana Jones character.

I like to imagine myself racing from country to country in my Artemis biplane, covered in dust and bruises from various adventures in a relentless search for companies no-one has heard about before.

Relentless, yes, but – for me at least – also pointless. I have not been on a foreign jaunt in years.

When I started my career at Fidelity, back in 2002, the legendary Anthony Bolton would say that going to meet companies gave you an edge. The analysts might all be forecasting earnings growth rates of 10% a year, but conversations on the ground could tell you a different story.

I recall an ex-colleague who covered Sub-Saharan Africa. He would go to Ghana and be met at the airport by a motorcyclist who would take him to see businesses so he could get company data disclosure directly. But data availability has really improved for more liquid emerging markets.

Our investable universe has doubled in the past decade. There are now around 3,000 companies around which there is sufficient and reliable data on which to make an investment decision. The asset class has matured. There are more big companies; they have a longer track record, and they have better data availability.

With so much information available online are we saying that somehow visiting a factory in the middle of nowhere would allow me to intuit extra vital insights? Ask my wife – intuition is not one of my strengths! Moreover, I am not sure that I could judge who has these ‘soft’ skills. So it would be no good giving me a global team of analysts to manage and telling them to do the legwork, because that would require me to make similar judgement calls on them – such as ‘that analyst is always very cautious’ or ‘that one can get a bit too enthusiastic’.

Some people will say that being on the ground enables you to see the facilities and reduces the chance of fraud. Most experienced fund managers have found at some point one of their holdings touched by fraud. It is hard to spot. If the perpetrators were so blatantly crooked that you could tell by meeting them or visiting their premises, I would hazard a guess that in the larger-cap arena in which we operate, everyone would soon know what they were up to. With the history of markets showing that many companies do not survive the test of time, we like to diversify our exposure across companies, geographies and sectors. This mitigates risk.

Another common argument for investing in a fund with teams on the ground is that they have a better sense of perspective. I understand this. Even despite the recent stimulus announcements, many looking at China through the prism of the UK and developed markets media see a property sector in turmoil, a failing economy and government curbs that restrict enterprise and growth.

While there are some truths in those observations, the reality is that China is undergoing change. It is becoming more self-sufficient. Many of the changes should have longer-term benefits for the country. The domestic recovery is taking time, but company valuations look attractive. China has seen huge innovation in technology, artificial intelligence (AI) and manufacturing. The government has not suppressed enterprise in these areas.

We have nearly 30% of our fund in China – a significant overweight position that puts us in a good place to benefit from stimulus. But I did not need to travel to China to make this judgement.

I took this position by gleaning insights from a rigorous analysis of data. If anything, there is too much information. We use a proprietary system to sift through data from a range of sources, to make analysis more manageable. The building blocks are company fundamentals, behavioural insights and market trends. By comparing the characteristics of one company with the rest of the universe, we are able to identify a shortlist of companies with good growth and quality features and attractive valuations that merit closer inspection. It helps ensure we are empowered by information, not overpowered.

And AI is helping even more. Today, managers like us can use a news service from a data provider that takes articles from over 100,000 international news sources, translates them and feeds them into an ever-improving language-processing algorithm to tell us whether the coverage around any company is positive or negative. It all adds to our knowledge. And it is fast – if a company has a data leakage you know about it the next day. It gives you a more objective way of assessing the more granular characteristics of a business beyond company disclosures.

This home-comforts approach is not the only one. I am sure other managers – particularly those with a small-cap bias – will raise objections and say meetings still matter. I acknowledge that.

But this model works for me. It helps us overcome behavioural biases that can develop from tracking companies for long periods of time. It frees us from the emotional attachments to a business that might emerge from visiting. And it focuses our minds on the financial characteristics that really matter.

Moreover, our investment process is designed to deal with a range of market conditions, with diversification at the heart of our risk management approach. Ultimately, I believe this should all feed into performance.

Raheel Altaf is manager of the Artemis SmartGARP Global Emerging Markets Equity fund. The views expressed above should not be taken as investment advice.  

China has been struggling to meet investors’ expectations in the post-Covid world, but just when people started wondering whether it was high time for a rebound, the CSI300 index (which tracks the performance of the top 300 stocks on the Shanghai and Shenzhen stock exchanges) shot up by 15.7% last week, taking some by surprise.

The catalyst for this sudden upswing came from the People’s Bank of China, which freed up about ¥1tn in long-term liquidity by reducing the reserve requirement ratio for banks by 0.5 percentage points, allowing them to lend more and support the economy.

It also cut the seven-day reverse repo rate (a tool used to manage liquidity and control short-term interest rates in the banking system) from 1.7% to 1.5%.

Performance of indices over 1 month

Source: FE Analytics

These measures triggered the best week in nearly a decade at China’s stock exchanges, as well as an upswing in European equities given the region’s trade links with China. But one good week doesn’t mean China is out of the woods. Below, Trustnet asked experts what investors should make of China’s stimulus package and how long the rally can continue.

Franklin Templeton’s Ness: Some of our best performers are Chinese companies

China used to be one of the largest underweights in the Templeton Emerging Markets Investment Trust portfolio, but manager Andrew Ness has gradually closed that underweight over the past three to four years. When last week’s moves began, the trust’s Chinese exposure was close to matching the 24.4% allocation of its benchmark, the MSCI Emerging Markets index.

“People talk about this China rally as if it has just happened, but if we look year-to-date, a significant number of our largest performers in the portfolio were Chinese names.”

They included internet and technology company Tencent, which was up 63% year-to-date, white goods manufacturer Haier Smart Home (+68%) and Brilliance China, the BMW joint venture partner.

Despite being “not without a challenge”, China remains an “investible” market, with plenty of strong points, including its “highly educated work force, world-class infrastructure and significant advantages in manufacturing, renewable energy and elective vehicles”.

The manager also argued that China could be considered as “politically stable, unlike much of the rest of the world”.

Whether the rally continues  will depend on domestic consumption and investment, Ness said.

“Last week’s stimulus is going to be impactful in the short term, but the long-term sustainability of this rally is dependent upon the real economy impact and a pickup in domestic confidence from both a consumption and investment perspective,” he explained.

“The government finally recognizes that it needs to stimulate both those areas now, but will the combination of the monetary policy changes be sufficient for that? We are not sure. It is just too soon to say.”

Dennehy Wealth’s Richardson: We feel positive about China over the long-term

Joe Richardson, a discretionary investment manager at Dennehy Wealth, sold out of China a couple of months ago and decided to await “a more stable footing before considering re-entry”. He previously had direct exposure to Chinese stocks but used a stop-loss.

To him, the country is in a “painful but necessary” transition period and still facing “significant headwinds”, including an aging population and US sanctions.

“There is only so much technology you can copy, at some point China needed to innovate internally, shifting from producing low-tech goods like furniture and textiles to much more advanced sectors, such as semiconductors and broadcasting equipment,” he said.

“While still far behind Taiwan, it is making strides in key areas like electric batteries and artificial intelligence (AI).”

Almost 68% of top-quality electric battery papers cite Chinese research, compared to just 10% for the US. Similarly, in AI, 31% of top papers reference Chinese work, while the US accounts for 14%.

“They are really pushing technological breakthroughs so their limited labour force with high skills and capital can still flourish – that’s their number one priority,” he said. “We feel positive about China over the long-term.”

AJ Bell’s Mould: Chinese stimulus measures have a patchy success rate

Among the sceptics was AJ Bell investment director Russ Mould, who thinks the rally implies a level of investors’ FOMO (fear of missing out) but warned that in the past, stimulus measures have not lived up to investors’ expectations.  

“A veritable feast of economic stimulus measures has led investors to take a more optimistic view of the earnings potential for Chinese companies,” he said.

Lower borrowing costs, smaller deposits for buying homes and more capacity for banks to lend money should lay the foundations for “greater economic activity” among businesses and consumers.

“On paper, it looks interesting. But whether the desired results end up meeting investors’ expectations is another thing,” he continued.

“China is notorious for throwing stimulus measures left, right and centre, and the success rate is patchy to say the least.”

Investment demands an element of risk-taking to generate returns but highly volatile funds are more likely to experience wide fluctuations in performance. While cautious savers often avoid volatile funds, for investors comfortable with taking higher risks, the pay-off of greater returns can be worth the bumpy ride.

Several global equity funds have successfully toed the line between high risks and high rewards. Below, we look at the funds in the bottom decile for volatility over the past five years that have enjoyed top-decile performance within the IA Global Sector.

This was a turbulent period for global equities, with the impact of the pandemic and high interest rates leading to challenging years for many of the funds below.

Returns and volatility of IA Global funds over 5yrs

Source: FE Analytics; data in sterling terms to 31 Aug 2024

First up is the £739.6m PGIM Jennison Global Equal Opportunities fund, managed by Mark Baribeau and Thomas Davis. 

Performance of fund vs sector and benchmark over 5yrs

Source: FE Analytics

With volatility of 20.9%, the portfolio is one of the riskiest funds in the IA Global peer group, with one of the widest tracking errors in its sector at 14.7%.

This comparatively aggressive strategy saw one of the worst maximum drawdowns of -39.9% over the past five years. Yet the fund recouped its losses and achieved top-decile performance over the past five years, up by 98.3%.

As a result, its 0.53% Sharpe ratio ranks in the top quartile for risk-adjusted returns. Its other metrics have also been respectable with the portfolio enjoying alpha of 2.3 above the MSCI All Country World Index over the past five years. This makes the fund top-decile for alpha generation in the IA global sector.

This means that while the fund has doubtlessly been high risk, its investors have been amply compensated for the volatility.

Second, we have the £1.8bn Baillie Gifford Positive Change fund. Led by Kate Fox and Lian Qian since 2017, the fund has returned 84.2% over five years, with a total volatility of 21.8%.

Performance of fund vs sector and benchmark over 5yrs

Source: FE Analytics

These results were down to consistently strong performance between 2018 and 2020. The fund has struggled more recently, however. Its top-quartile five-year performance was followed by a drop to the fourth quartile over three years and the past year. 

The fund has maintained a strong reputation and is recommended by Square Mile, who have given it a Responsible A ranking on their Academy of Funds.

“We believe this fund is currently one of the most attractive responsible fund offerings in the market. Baillie Gifford has clearly put a lot of thought, effort and resources into this product,” analysts at Square Mile commented.

“It has a well-defined and distinctive investment process and places a strong emphasis on both returns and providing a positive impact over the long run.”

Finally, the £1.8bn Baillie Gifford Long-Term Global Growth Investment fund is one of the 10 riskiest funds in the sector, with 24.1% volatility.

Nevertheless, FE fundinfo Alpha Managers Mark Urquhart and John MacDougall, who helm the fund, have achieved top-decile performance, returning 84.2% over five years.

Moreover, the portfolio has enjoyed strong excess returns, generating alpha of 2.6 above the MSCI ACWI. This puts the fund within the top quartile for alpha generation in this period.

Performance of fund vs sector and benchmark over 5yrs

Source: FE Analytics

Over the past five years, the fund has experienced one of the widest tracking errors in the peer group, at 21.4%, a bottom-quartile ranking. It also experienced one of the largest maximum drawdowns compared to its peers at -49.4%, the sixth largest in its sector.

Finally, three sector-specific exchanged-traded funds (ETFs) in the IA Global peer group gave their investors a white-knuckle ride that was ultimately rewarding. The most notable of these was the £389m L&G Battery Value-Chain UCITS ETF, which was the only fund that matched our criteria and enjoyed returns of over 100%.

Other examples include the £514.3m L&G Artificial Intelligence UCITS ETF, as well as the £405.3m Invesco CoinShares Global Blockchain UCITS ETF which ranked amongst the most volatile funds in the IA Global sector but delivered top-decile performance.  

A well-diversified portfolio isn’t born overnight. Not only does it take effort, it also takes money – it’s no use finding a long list of great fund combinations if your investible pot is limited.

When time and money are scarce, investors must work with what they have got. One option would be to invest in a one-stop-shop solution, be it a multi-manager, multi-asset or index fund – but it doesn’t have to stop there.

Trustnet asked experts what other options are available for investors who want to go beyond one-stop-shop funds, but keep things simple. Below, they suggested two-fund portfolios with a core/satellite approach, whereby one fund bears the brunt of the heavy lifting while the second one complements and enhances it.

Fidelity Index World and Templeton Emerging Markets

Long-term, buy-and-hold investors might want to focus on equities rather than a multi-asset approach.

For them, a good pairing would be a core holding in a global developed market equities fund, coupled with a modest satellite position in emerging markets, according to Jason Hollands, managing director of Bestinvest.

His suggestion for global developed market equities is the Fidelity Index World fund, which tracks the MSCI World Index and has a low ongoing charges figure (OCF) of 0.12%. It provides “significant diversification across stocks at low cost,” he said.

For the satellite position in “less efficient” emerging markets, he proposed a selective approach through an actively managed portfolio such as the Templeton Emerging Markets investment trust.

Performance of fund against sector and index over 10yrs
Source: FE Analytics

This trust is “the grandaddy of emerging market investments”, having been launched in 1989. Since the departure of veteran investor Mark Mobius, it has been managed by Chetan Seghal and Andrew Ness, who “leverage a research team that is embedded across local markets”.

“The trust benefits from having a very pragmatic and patient philosophy, investing in companies with sustainable earnings power that are mispriced,” Hollands said.

Currently, nearly 81% of the portfolio is invested in Asia, with technology and financials being notable themes.

Polar Global Insurance and Troy Trojan

Director of Fairview Investing Ben Yearsley picked the satellite fund first – Polar Global Insurance.

“The satellite is easy. It’s one of my favourite funds, albeit a niche one; I use it for low and high risk,” he said.

“You’d be hard-pressed to find any of its stocks in most other portfolios, as it mainly focuses on reinsurance and catastrophe insurance companies.”

The £2.4bn strategy has achieved a maximum FE fundinfo Crown Rating of five and has been “very consistent over the long term”, having delivered 10% per annum over a very long period.

Performance of fund against sector and index over 10yrs

Source: FE Analytics

For core exposure in a small portfolio, he wanted to avoid excessive volatility, so he also went with Fidelity Index World. It offers “cheap, broad-based coverage” and is suitable for higher-risk investors.

Those who would rather keep risks at a minimum might prefer Troy Trojan, managed by FE fundinfo Alpha Manager Sebastian Lyon and Charlotte Yonge. It seeks to protect wealth from inflation through exposure to quality companies, gold and inflation-linked government bonds.

JOHCM Global Opportunities and BlackRock Global Unconstrained Equity

Finally, Rob Morgan, chief analyst at Charles Stanley Direct, opted for two global equity funds – JOHCM Global Opportunities for the core allocation and BlackRock Global Unconstrained Equity as the satellite.

Performance of portfolios (with 70% in core and 30% in satellite) against IA Global sector over 3yrs

Source: FE Analytics

The JOHCM fund can be considered for “part of an investor’s core allocation to global shares, especially for those wishing to keep their portfolio anchored by characteristics of quality and value”, he explained.

The fund is neither growth or value biased, instead exploring what the managers refer to as the ‘forgotten middle’ where quality, growth and value styles intersect.

“As well as a concentrated portfolio, where stock picking has a significant impact, the approach emphasises capital preservation,” Morgan said.

“If insufficient attractive opportunities are identified, the managers are prepared to hold some cash.”

This all-weather fund is paired with BlackRock Global Unconstrained Equity, a “punchy, growth-orientated option” that is likely to be “more volatile, given the very high-conviction approach”.

It is managed by Alistair Hibbert, best-known for his success in unconstrained European equity funds. The manager searches for the “growth compounders” of the coming decade and beyond, with no regard for any benchmark.

“This is a pure stock-picking fund with a very defined approach and style in the hands of an accomplished manager,” said Morgan.

“It makes for a good complement to a broader equities fund or a tracker.”

Source: FE Analytics

The Janus Henderson Absolute Return fund has gone 23 consecutive months with no drawdowns, the longest unbroken streak since its inception in April 2009.

Manager Luke Newman said his colleagues have promised him a birthday cake once he gets to two years. The £912m fund’s stellar returns also earned Newman and co-manager Ben Wallace an FE fundinfo Alpha Manager of the Year award in the absolute return category in May.

Newman attributes the fund’s success to a conducive environment for stock-picking on both the long and short side. Below, he explains why the fund is net short the US and how he is using pairs trades to benefit from the rising popularity of obesity drugs.

Describe your investment strategy

We are an equity long/short strategy within the absolute return sector, investing in developed market, large- and mega-cap equities. Over the long term, we've delivered equity-like performance with the volatility of sovereign fixed income. That's become the calling card of the strategy.

We run two separate investment books: a core book, which looks longer term on both the long and the short side; and then a tactical book, which is more trading-orientated and can react quickly to protect against downside risk and capitalise on shorter-term disruptions.

How has Janus Henderson Absolute Return performed recently?

We've delivered a run of 23 months without a drawdown. It's a new record for us and we've been running the strategy for 20 years.

Performance of fund vs sector and benchmark over 2yrs

Source: FE Analytics

The big change during this time has been moving back to an environment where money has a cost. We've emerged from a period of near zero interest rates into an environment that feels more normal for equity investing.

The increase in dispersion between share prices is being driven by underlying company fundamentals more than macro headlines. That rationality is great news for stock-pickers, especially those able to benefit on the short side.

How much of your performance came from the short book this summer?

In down months for the broader market, we would expect more returns from the short book and that's exactly what happened through the summer, especially given we were positioned net short US companies.

But areas of the long book were still contributing. Earlier this year, we tilted the portfolio towards defensive, longer duration assets, particularly in Europe and the UK. Sectors such as utilities and real estate investment trusts (REITs) came into the portfolio and performed well this summer.

How long have you been net short US stocks?

Through the quantitative easing (QE) years, we were consistently net long the US. A lot of liquidity was injected into the US economy, which outperformed.

But that is unwinding. The levels of financial leverage at a household and corporate level, plus the much higher relative valuations of US assets, convinced us to take profits through the summer of 2022 and introduce some net shorts. We didn’t feel comfortable with the lofty valuations within the technology, consumer and industrial sectors. Our focus was on the US consumer, going short companies in retail, housing and consumer goods.

How have you been playing the tech sector?

In 2022, technology in the US was the first area we moved to short. That was due to valuation regime change with higher interest rates, as well as the normalisation of trading patterns after lockdowns when we were all sat at home replacing hardware and signing up to new subscriptions. There was a pronounced sell-off and we were able to protect capital through our short positions.

Since 2023 there has been much more stock-specific dispersion within technology. Businesses such as Microsoft, Oracle and Alphabet have been able to adapt to a higher cost of borrowing. In many cases, they have huge net cash positions, so high rates are actually a positive.

The contrast would be in the short book, where you have businesses such as electric vehicle manufacturers that have seen challenges in terms of demand, pricing, leverage and the higher cost of debt.

Do you have any exposure to obesity drugs?

We’ve been close to Novo Nordisk during the 20 years we’ve been running the strategy. We're always interested in companies whose challenges are on the supply side rather than generating demand; that is usually an advantageous position to be in.

The second and third derivatives of obesity drugs are interesting when you think about the lifestyle changes we are likely to see as adoption increases. We are shorting quick service restaurants in the US.

We're long Coca-Cola, which has no snacking exposure, and short a beverage and snack competitor; that’s a pairs trade which has worked well.

How do you use pairs trades?

During the QE years of low interest rates and high correlations, pair trading strategies were really challenged. You simply didn't have the dispersion at a single stock level to make them worthwhile.

Over the past two years, pairs trading – going long and short two different companies in the same region or industry to isolate macro risks – has become an important part of our strategy again.

An example would be long InterContinental Hotels versus shorts in US hotel groups. InterContinental Hotels was trading at a material discount at the start of this year because it is London listed and has more Chinese exposure than US competitors. We benefitted from the normalisation of the relationship between those valuations.

Performance of Intercontinental Hotels this year vs FTSE 100

Source: FE Analytics

What has been your best performing position recently?

Rolls-Royce, the aircraft engine manufacturer. We met the new management team early last year and understood the opportunity. The share price was implying that the business would need to raise equity, whereas it became clear to us that Rolls-Royce – with a dynamic new management team – would be in a strong position to recover from travel disruption and resume dividends.

Performance of Rolls-Royce vs FTSE 100 over 2yrs

Source: FE Analytics

What positions detracted from returns in the past year?

We haven't had a significant detractor over that period because of the low level of risk in the strategy. We usually have a long list of very small detractors because we operate with a stop loss in the tactical book. We stay in liquid positions and if the fundamentals change or a share price’s reaction to an announcement differs from our expectations, we close that position. Similarly, if any position moves 10% against us, we close it.

What do you enjoy doing outside investing?

I ran the Marathon du Médoc last year, which is a perfect way of combining two passions – running and wine.

Everything from my youth seems to be making a comeback: Oasis, the Spice Girls, Sex and the City, Top Gun, a Labour landslide, inflation and pre-financial crisis economic conditions. Fund managers, who are getting bored of reading central bank tea leaves, are yearning for the latter.

Luke Newman, who manages the Janus Henderson Absolute Return fund, said the biggest change in equity investing during the past two years has been “moving back to an environment where money now has a cost”.

“In terms of financing rates, the discount rate, interest rates, the cost of money, they're much more normal in a historical context” than during the post-financial crisis years of quantitative easing, he said. As a result, dispersion between share prices is increasing and is being driven by company fundamentals, more so than macro headlines. This is “great news for stock pickers”, he concluded.

If we are returning to a landscape more akin to the pre-2008 normality, surely it would be wise to entrust our savings to fund managers who have a track record from that era.

In some ways I am preaching to the choir. Most fund selectors look for experienced managers. But I want to make the specific point that some of that investment experience should have been garnered before the global financial crisis irrevocably altered our industry and ushered in a wave of central bank intervention.

I began my career in financial journalism back in 2002, interviewing UK pension funds back when they all still had a massive home bias. Then I moved to New York where I had a ringside seat to watch the financial crisis unfolding… but did I read the writing on the wall? Let’s just say that if you’ve watched The Big Short, you will have noticed that a plucky young English journalist was, well, nowhere to be seen. This still rankles. “Why didn’t you spot the financial crisis coming?” my father asked me over lunch last week. If I had, the lunch would’ve been a lot more lavish.

Which leads me to believe that we’re looking for fund managers who racked up much more pre-financial crisis experience than I did; in other words, somebody older than me. Late forties and above. When I interview fund managers in this age group, I do tend to afford them a greater degree of respect. And we tend to get each other’s jokes.

There are downsides to old hats, however. The longer you do something, the more patterns, prejudices and bias can set in.

To guard against this very thing, Mick Dillon and Bertie Thomson from Brown Advisory invite their colleagues to point out their blind spots at their offsite meetings every year. Mick admitted to a tendency to cleave to stereotypes that were valid in the past but are no longer true, such as semiconductors being a cyclical industry.

In the same vein, GQG Partners set out to hire a cohort of younger analysts who did not share the same prejudices as the rest of the team, whose fingers had previously been burned in the energy sector, for instance.

Most people now subscribe to the benefits of a diverse team but age is a facet of diversity that may not have been afforded the appreciation it deserves, and investment teams arguably need people of all ages to reach the best decisions.

So next time you have a big birthday, celebrate in style. Ageing is a privilege and it may just make you better at your job.

The past three years have seen a reversal of fortunes for fixed income funds. Central banks’ decisions to slash interest rates this year bode well for the asset class, as lower interest rates should enable bonds to deliver higher total returns.

Several fixed-income strategies have proven impressive amidst these turbulent market circumstances, with some even recovering from weak long-term performance to produce stellar numbers more recently.

As part of an ongoing series, Trustnet looks at the funds that have rallied from bottom-quartile performance over 10 years to top-quartile performance over three.

Below, we look at fixed-income funds across the IA Sterling Corporate Bond and IA Sterling Strategic Bond sectors.

How bottom quartile funds over 10yrs have performed recently

Source: FE Analytics

In the IA Sterling Strategic Bond sector, just two funds meet our criteria of moving from bottom to top-quartile performance over the past three years.

Of those two, the most interesting is the £813m M&G UK Inflation Linked Corporate Bond fund, managed by Ben Lord and Matthew Russell.

The portfolio has an FE fundinfo Crown Rating of five. It has rallied from the bottom 10 funds in its sector, returning 24.4% over 10 years, to a top-five performance of 10.6% over three years. Additionally, the fund delivered a top-quartile effort over the past five years, rising by 15.8% in total.

Performance of fund vs sector and benchmark over 3yrs

Source: FE Analytics

Unlike more conventional corporate bond funds, this strategy came into its own when inflation spiked in 2022. Given its low sensitivity to movements in interest rates, it was not hampered by rate hikes that year. Therefore, the fund boasted a particularly strong 2022 compared to peers, falling by just 0.4% that year.

The fund invests directly in high-quality, inflation-linked corporate bonds, as well as gaining indirect exposure by combining inflation-linked government bonds with derivatives. It also holds floating rate notes.

Analysts at Square Mile, who have given the fund an AA rating, said “there are very few funds of this ilk” giving investors “rare access” to inflation-linked corporate bonds.

“We believe that the fund is both intelligently structured and capably managed to navigate inflation, credit and interest rate markets to the benefit of investors seeking inflation-protected returns over three to five-year time horizons,” they concluded.

The fund’s shorter-term record has failed to impress, however, dropping to the bottom quartile versus peers over the past year.

Another example of a strategic bond fund which rallied over three years was the four Crown-rated £67.1m Schroder Sustainable Bond strategy.  

It was the second-worst performer in the whole sector over 10 years, but it produced a top-quartile effort over three years, up 8%, and remained in the top-quartile for the past year.

Performance of fund vs sector over 3yrs

Source: FE Analytics

Turning to the IA Sterling Corporate bond sector, a further four funds match our criteria here.

First is the £895m AXA Sterling Credit Short Duration bond, led by FE fundinfo Alpha Manager Nicolas Trindade.

The portfolio has enjoyed an impressive turnaround, rising from the seventh-worst track record in the peer group over 10 years, to the third-best result of 6.6% over three years. Its five-year performance is also impressive, with the fund up by 10.1%, making it the fourth-best in the sector.

Performance of fund vs sector and benchmark over 5yrs

Source: FE Analytics

The fund's defensive strategy has enabled it to weather difficult market circumstances and recover much better than competitors in the corporate bond peer group.

It held up well in 2021 and 2022, falling by just 0.1% and 4.2%, respectively. Both years were challenging for other bond funds, with no fixed-income portfolio in the peer group enjoying positive returns in 2022, while just 10 funds rose in value in 2021.

Square Mile analysts gave the fund an AA rating, noting that while its focus on short-dated bonds means returns are lower, the portfolio successfully protects capital in line with its stated objectives.

“Whilst this fund is never likely to excite, it is also unlikely to produce any nasty surprises for investors,” analysts at Square Mile concluded.

Several other funds in the Sterling Corporate bond sector rebounded from struggling long-term performance and enjoyed first-quartile three-year returns. These included the £1.3bn Vanguard UK Short-term Investment Grade Bond Index, the £177.6m Allspring (Lux) Worldwide - EUR Short Duration Credit fund, and the £87.4m CT Sterling Short-dated Corporate Bond fund.

An ongoing debate for investors, asset allocators and managers of model portfolios is whether they really need alternative investments.

With fixed income and money market funds delivering a decent yield and offering diversification away from equities, alternative investments – which often charge high fees – look less appealing.

As Rob Starkey, who co-manages Schroders’ range of model portfolios, said: “It’s a very expensive position if it’s not keeping up [with] or outperforming cash.”

This is why Schroder Investment Solutions has a dual mandate for alternative investment strategies. The minimum return target is cash plus 2% after fees (using the ICE BofA Sterling 3-Month Government Bill index as a proxy for cash) and this is the portfolio’s primary benchmark. Secondly, beta should be half that of the MSCI All Country World Index.

Taken together, these goals underscore that alternative investments should be return enhancing and/or risk diversifying.

This strategy has worked in recent times. During the volatile months of July and August 2024, Schroders Investment Solutions’ alternatives portfolio provided a less volatile and higher return outcome than global equities. Performance for the two-month period was circa 1.2% net of fees versus 0.3% for the MSCI ACWI.

One reason that investors and multi-asset fund managers such as Starkey may want to add alternatives now is inflation; in particular, where it will settle in the future.

Even though inflation is coming down, Schroders’ long-term view is that it will be higher than in the past due to the ‘three ‘D’s’ of demographics, decarbonisation and deglobalisation – to which Starkey added a fourth factor, debt.

Equities and bonds tend to become more correlated during periods of higher inflation, a relationship that becomes more pronounced when inflation reaches the 3% level, creating a role within portfolios for alternative investments.

The highest allocation to alternatives within Schroders’ model portfolios, which it manages on behalf of financial advisers, is currently 14.5%. This varies depending on the level of risk, with the allocation increasing with each step up the ladder, although the most aggressive strategy is invested solely in equities.

The alternatives bucket includes absolute return, macro, multi-strategy, volatility/arbitrage, trend-following and 130/30 extension strategies, alongside commodities and real estate.

Schroders also holds equity dispersion strategies that aim to profit from the difference between the S&P 500 index’s volatility and that of its constituent stocks.

The firm’s model portfolios invest in the Landseeram European Equity Focus Long/Short fund, Jupiter Strategic Absolute Return Bond, Brevan Howard’s BH Macro strategy and Schroder GAIA Contour Tech Equity, among others.

Schroders also holds catastrophe bonds or CAT bonds, which insurers use to transfer the risk of extreme events to investors, and which are “excellent diversifiers” because their returns are not related to the stock market, Starkey said.

The commodities allocation is split between the L&G Multi Strategy Enhanced Commodity ETF, which provides broad exposure to the sector, and a market neutral strategy that aims to benefit from the difference between the spot price and futures contracts. By being market neutral in this sense, the latter dampens the portfolio’s exposure to the volatility of commodity prices.

Meno’s Paradox first appeared in the Socratic dialogues. It represents sophistry at its most adroit and Plato at his most exquisite. Yet the concept is perhaps best expressed not in an ancient Greek elenchus but in a 1972 episode of Steptoe and Son, a sitcom about two bickering rag-and-bone men.

The scene in question features the title characters quarrelling over who should write an article for their parish magazine. Steptoe Snr contemptuously brands his offspring incapable of spelling ‘chrysanthemum’, to which Steptoe Jnr defiantly replies: “I can look it up in the dictionary.”

The father is quick to seize on this fallacy. “How can you look it up,” he says, “if you can’t spell it?”

Investors may face a similar puzzle at a time when the case for diversification is back in the spotlight. Recent volatility around leading technology stocks has re-emphasised the merits of looking further afield in the investment universe – but exactly what are we looking for?

One possibility is UK smaller companies. Widely unloved for several years, they could now finally emerge from the shadows for numerous reasons – including a cut in interest rates, attractive valuations and a history of outperformance relative to their larger counterparts.

Crucially, though, these stocks are not just underappreciated – they are also under-researched. Most are covered by barely a handful of analysts, and some are covered by just one or even none.

This sounds like Meno’s Paradox in full effect. How can investors who want to optimise risk and return across their portfolios seek out these opportunities if little or no information about them is available in the first place?

The solution is logical enough. As Steptoe Jnr tells his sneering parent in response to the chrysanthemum gibe: “I shall get someone else to spell it for me!” This is where market knowledge, high-level engagement and informed stock-picking enter the reckoning.

Eyeballing and early adopters

The task of identifying a stock’s appeal usually falls to investment analysts. These supremely diligent souls work for fund brokers, financial advisory firms and major investment banks.

Their basic function is to guide buy and sell decisions. They do so by sifting through a wealth of data – including company statements, price moves, currency adjustments and yield fluctuations – to assess a specific stock or other asset.

The number of equity analysts likely to be eyeballing a given business can vary substantially. As our own surveys have shown, a company’s market capitalisation is a key factor in this regard.

A FTSE 100 constituent is likely to be monitored by around 20 analysts. The figure for a FTSE 250 business is around 10, while the figure for a micro-cap firm – that is, a company with a market value of less than £200 million – is just one.

The tail-off is normally a product of liquidity and trading volumes. An investment bank, for example, may take the view that there is insufficient viability in exploring smaller-cap stocks.

This can give an edge to investment teams that conduct their own research. It can also favour fund managers whose track records in this sphere make them a go-to port of call for specialist brokers capable of unearthing hidden gems.

But why might it pay to be first? The answer is that many of these smaller companies, despite having sound business models and a capacity for long-term growth, remain significantly undervalued.

This means investors who spot potential before the broader market cottons on may reap the greatest rewards over time. Not least in the current environment, early adopters could get the most out of the recovery and subsequent elevation of a smaller company’s share price.

Digging deeper

Of course, quantitative investment analysis might reveal only part of the story. As active managers, we believe direct engagement with companies is essential.

Meeting executives in the smaller-cap space can be hugely instructive. Their grasp of a business’ workings and prospects is often much more detailed and intimate than that of a large-cap organisation’s senior management.

We feel it is especially important to understand the dynamic between a chief executive officer and a chief financial officer. Is the latter strong enough to stand up to the former? Do they have a truly shared vision? Is their strategy realistic?

Equally, the people who run the ship need to recognise that we expect the best for a company. We are not merely interested onlookers. We are there to maximise our investment and benefit shareholders and other stakeholders by helping the business survive and thrive.

All this information – gleaned both from analysis and from engagement – is ultimately used to select stocks. It should equip us with a more fully formed picture of which to buy, which to hold and which to sell.

Naturally, much the same approach might be applied across a variety of assets and regions. In-depth research, strong relationships and an on-the-ground presence can deliver a competitive advantage in many investment settings.

Yet we would argue the effect is more powerful in some arenas than in others. In the realm of UK smaller companies – a sector that continues to suffer from an undeservedly low profile and which might be disproportionately vulnerable to economic downturns – it can produce a degree of insight not easily acquired by would-be market participants.

The lesson: this is a corner of the investment universe that may demand not only long-overdue attention but demonstrable expertise. All things considered, you do not need to be an ancient Greek philosopher to see the wisdom in that.

Eustace Santa Barbara is co-manager of the IFSL Marlborough Special Situations, UK Micro-Cap Growth and Nano-Cap Growth funds. The views expressed above should not be taken as investment advice.

Infrastructure, housebuilders, small- and mid-cap stocks and dividend-payers should all benefit from interest rate cuts during the remainder of 2024, according to BlackRock. The manager also has a favourable outlook for the healthcare sector.

Yet the turbulence characterising the summer months has not completely dissipated, said Helen Jewell, chief investment officer of BlackRock fundamental equities, EMEA.

During the “tumultuous” third quarter, investors rotated from cyclical stocks into more defensive names such as financials and utilities, which “rose up the performance rankings as global market leadership extended beyond tech.”

Source: BlackRock Investment Institute, data to 17 Sept 2024

She expects this dynamic to continue. “Worries around recession and AI may result in more volatility and further broadening in market leadership as investors seek to diversify portfolios,” she said.

Below, she highlights the sectors she expects to prosper during the remainder of this year.

Rate-cut beneficiaries

Areas that suffered during the rapid rate-hiking cycle and were weighed down by borrowing costs and mortgage rates, such as construction and housing, are poised for a reversal of fortunes.

“Some recent earnings calls in these sectors highlighted green shoots of activity in both the US and parts of Europe, including areas such as the Nordics where construction was severely impacted by higher rates,” Jewell said.

In the UK, housebuilders have the additional tailwind of supportive government policy.

Companies that offer stable sources of income are likely to become more popular amongst investors as bond yields decline. “This is another reason we believe the UK is worth a look – the FTSE 100 has a current shareholder yield (dividends plus buybacks) of 6%, versus 3% for the S&P 500,” she noted.

Source: Goldman Sachs Global Investment Research, BlackRock, Sept 2024

Across Europe, small- and mid-caps remain attractive given their propensity to benefit from falling rates as well as their cheap valuations, she added.

Infrastructure

Infrastructure stocks are slated to be another winner in an environment of moderating inflation and rate cuts. Because these companies are capital intensive and “a significant amount of equity value is driven by long-term cash flows”, their valuations are inversely correlated to bond yields.

With valuations currently languishing at levels comparable to the 2008 global financial crisis, this is an attractive entry point for investors, she said.

Over the longer-term, the ‘four D’s’ of decarbonisation, deglobalisation, demographics and digitalisation should bolster the sector further.

Earnings resilience

With market volatility still on the horizon, BlackRock is sticking with companies that have long-term earnings resilience. This includes large technology and semiconductor companies profiting from increased AI spending, as well as more cyclical areas, such as construction and industrials, that should benefit from decarbonisation.

“This emphasizes the importance of selectivity. There's a clear divide between those companies that have exposure to energy efficiency, electrification, data centre demand and automation, and those that don’t – and are therefore more vulnerable to an economic slowdown,” Jewell explained.

Healthcare

The healthcare sector is going through a period of rapid innovation in the fields of obesity medication, atrial fibrillation treatments and oncology drugs. Obesity drugs could be worth more than $100bn in sales in the US by 2030, Jewell noted.

Ageing populations are boosting demand for healthcare, underpinning earnings for the sector and making it more resilient to market cycles and periods of geopolitical tension. Many healthcare companies already deliver stable income streams to their shareholders and long-term demographic trends are supportive of this dynamic.

All that said, many companies within the healthcare sector, such as vaccine makers, have had a tough couple of years since supply/demand dynamics were warped by the Covid pandemic.

The sector is now going through a cyclical recovery. As a result, “healthcare earnings are expected to lead most sectors over the next 12 months, while the sector is available at a 5% discount global stocks,” Jewell pointed out.

Source: BlackRock Investment Institute, Sept 2024

Janus Henderson Investors’ Jonathan Coleman has been appointed to run the £183m Omnis US Smaller Companies fund from November onwards.

The manager, who is part of the US small- and mid-cap growth team at Janus Henderson, will replace T. Rowe Price’s Curt Organt and Matt Mahon, who have run the fund since 2019 and 2023, respectively.

The move follows “a change in personnel at T. Rowe Price”, which triggered “a strategic review of the incumbent manager”, Omnis Investments announced.

During Organt’s tenure, the fund has beaten its benchmark, the Russell 2500, by four percentage points, as shown in the chart below.

Performance of fund against sector and index since August 2019

Source: FE Analytics

Coleman, who has more than three decades of investment experience, said his team has a “strong track record in identifying high-quality, smaller US companies with strong growth potential”.  

Omnis reassured investors that there will be no alternations to the fund’s strategy, investment objectives or philosophy. It will continue to focus on US early-stage companies with competitive advantages, a high return on capital and robust cash flow generation. The new team will “carefully consider” the price paid for stocks, relative to intrinsic value, Omnis stated.

Andrew Summers, Omnis’ chief investment officer, said he was “impressed” with the new team’s “disciplined investment process, which combines a focus on fundamental research with a strong emphasis on valuations”.

Global markets have experienced a turbulent five years, facing challenges such as a global pandemic,  recession, and various geo-political conflicts. During times like this it can pay off to take some risks, but can also go catastrophically wrong.

As such, getting the best returns for the risk taken can become a key factor for investors when deciding which funds to buy.

In the first part of a new series, Trustnet looks at the funds in different sectors that have made the best risk-adjusted returns over the past five years using the Sharpe ratio, which factors in volatility and total return.

We do this by looking at funds ranking within the top 10% for five-year returns and Sharpe ratio – which measures the amount of excess return generated by a fund per unit of risk.

There are two ways funds can achieve a strong Sharpe ratio – either by taking less risk for reasonable returns, or by taking on more risk for supranormal gains.

Below, we look at the best funds for risk-adjusted returns over five years in the 412-strong IA Global peer group.

Risk-adjusted returns of IA Global funds over 5yrs

Source: FE Analytics. Total return in Sterling. Figures accurate up to 31 August 2024.

Heading the table is the £621m Royal London Global Equity Select fund, led by FE Fundinfo Alpha Manager Mike Fox. Over five years, it has achieved the best five-year returns among its peers of 129.2% with third-decile volatility of 12.3%. This has led to it achieving one of the highest Sharpe scores in the sector at 1.2.

Performance of fund vs the sector and benchmark over 5yrs

Source: FE Analytics

However, the fund is currently hard closed to new investors. Additionally, Royal London’s head of equities Peter Ruffer departed the firm earlier this year, which may affect the fund’s future performance.  

Next up is the £833m Guinness Global Innovators portfolio, managed by Ian Mortimer and Matthew Page, which enjoyed the second-highest five-year returns of 106.8%.

It was however, a comparatively more aggressive strategy than Royal London’s portfolio, with the fund ranking in the eighth decile for volatility over the past five years.

This combination of high risks and high returns means the fund achieved a total Sharpe ratio of 0.76 over five years.

Performance of fund vs sector and benchmark 5yrs

Source: FE Analytics

The portfolio’s broader performance has also been impressive, with top 25% results over 10 years, and the past year. It did, however, drop into the second quartile over three years.  

Several other funds achieved returns of above 100%, while also ranking in the top decile for Sharpe ratio across the past five years.

These included the £51.7m Fisher Investments Institutional Global Developed Equity ESG, the £1.7bn L&G Global 100 Index Trust, and the £5.9m Fisher Investments Institutional Global Developed Concentrated Equity ESG.

Another popular portfolio in the IA Global sector that achieved top-decile risk-adjusted returns was the £2.9bn GMO Quality Investment fund, which has an FE fundinfo Crown Rating of five.

With the second-highest five-year Sharpe ratio of 0.93 and top-decile returns of 97.3%, it is one of the consistently best-performing portfolios in the sector, with strong 10-, five-, three- and one-year records.  

Performance of fund vs the sector over 5yrs

Source: FE Analytics

Its 10-year record was particularly exceptional, with the fund up by 347.2%, a second-place performance in the peer group overall, 37 percentage points better than the third-place portfolio.

Many other larger funds secured top-decile risk-adjusted returns over five years, most notably the £10bn WS Purisima Global Total Return fund.

The aggressive strategy paired top-decile performance of 88.8% with seventh-quartile volatility, which indicates that, despite taking on more risks than average, it made smart use of those risks. This higher risk strategy resulted in a five-year Sharpe ratio for the fund of 0.69.

Performance of fund vs sector and benchmark over 5yrs

Source: FE Analytics

More broadly, it has enjoyed top-quartile performances over both one-, three- and 10-year periods. It’s 10-year performance was particularly notable, with the portfolio up by 247.7%, the 12^th best result sector.

Other large funds to gain top-decile Sharpe ratios and returns over the past five years include the £5.9bn Royal London Global Equity Diversified and the £5.6bn JPM Global Focus portfolios.

Scottish Widows has made four senior appointments in its investment team, reporting to chief investment officer, Kevin Doran.

Matt Brennan and Mark Gillan join from Valu-Trac investment Management as head of asset allocation and research, and head of operations, respectively.

Mobius Life’s Mithesh Varsani will come on board in January 2025 as head of investment solutions.

Finally, Heather Coulson will take on a new role as head of implementation and portfolio management in January. She moved to Scottish Widows earlier this year from abrdn and is currently deputy head of the investment office.

Brennan has almost a decade of industry experience and previously worked at AJ Bell and Brown Shipley. He will join Scottish Widows in November. Gillan will join the firm in January 2025, following a career overseeing a range of investment funds at organisations such as AJ Bell and Winterflood.

Having conviction in a manager is often one of the reasons why fund selectors and investors choose one fund over another.

But loading up a portfolio with strategies run by the same manager is usually not recommended, as it may lower diversification and increase the so-called key-person risk – the potential negative impact on performance due to the departure or unavailability of a manager. The extreme would be ending up ‘worshipping’ a fund manager.

Below, experts discuss where to draw the line between conviction and worship in a manager, whether investors should avoid owning more than one fund run by the same team or manager and if there are cases that are worth making an exception.

Dennehy Wealth’s Richardson:  We actively avoid placing too much reliance on any single fund manager

The strongest disapproval for the practice came from Joe Richardson, discretionary investment manager at Dennehy Wealth, who “actively avoids placing too much reliance on any single fund manager or team”.

“Fund manager worship can be a very dangerous thing,” he said. “Most managers are very impressive with strong conviction in their approach but we should all be aware of a media frenzy surrounding any fund manager – history shows that can backfire and Woodford is a prime example of how things can go wrong.”

Indeed, in 2019 the once-renowned Neil Woodford came under fire for his illiquid holdings and shortly afterwards his eponymous fund house – Woodford Investment Management – collapsed.

“No one manager is infallible”, said Richardson, who instead focuses more on funds with a “solid” investment process and that stay disciplined in the execution, regardless of any one individual’s reputation.

EQ Investors’ Cheung: Owning multiple funds from the same asset management company is fine

Broadly agreeing with Richardson, EQ Investors’ investment analyst Andrew Cheung stressed the importance of the process over the manager, but allowed the ownership of funds by the same asset management house.

“Owning multiple funds from the same asset management company is fine, but not from the same individual manager,” he said.

“It is important to avoid group think and embrace a diverse range of opinions and strategies. It is the investment process that gives investors clarity as to their investment approach given the changing market conditions and their investment mindset.”

Progeny’s Sparke: We only make one exception to our rule

Tom Sparke, portfolio manager at Progeny Asset Management, was the first to admit he allows exceptions. While historically he has not tended to use two funds from the same manager or team, there is one exception within Progeny’s UK exposure – the Martin Currie UK Equity Income and Rising Dividend funds, both co-managed by Will Bradwell and FE fundinfo Alpha Managers Ben Russon and Joanne Rands.

Both however are “relatively small holdings” for Progeny, and are used to “nuance the exposure we gain from their overall position”.

Performance of funds against index over 5yrs

Source: FE Analytics

“In my experience, a manager or team will generally have a style that we would look to complement with another of a different style, rather than another manager from within the same house,” Sparke said.

“It may be more prevalent in strategies with a more systematic approach, meaning the same strategy could be replicated in the US, UK or Europe.”

A good example of this would be Jupiter Merian’s systematic team, who run numerous strategies in various regions.

Elston Consulting’s Qiao: A single-team approach makes more sense for multi-asset funds

For Jackie Qiao, head of fund research at Elston Consulting, key-person risk becomes a lesser concern when two things are in place. First, the success of the fund is more about the team's overall capability and consistency rather than just one person's influence. Secondly, the investment process is “robust and disciplined”.

That said, there are some qualifiers. For example, if using multiple funds run by the same team, the considerations are different for security selection funds compared to asset allocation funds.

In the first case, it can make sense if the investment philosophy and approach are similar, according to Qiao.

“For example, a team looking at UK small-cap and UK small-cap value have a lot of overlap,” she said. “But if security selection strategies are very different (say UK small-cap versus UK large-cap) it seems less likely that there is overlap and we could question if the same team can do both.”

For asset-allocation funds, it’s more about multi-asset capabilities. For example at Elston, Qiao uses the VT Avastra Global Fixed Income, VT Avastra Global Alternatives and VT Avastra Global Equity funds – all three are funds-of-funds managed by Paul Denley and Richard Morrison, who offer “broad diversification and dynamic asset allocation management”.

In this instance, having a consistent approach across asset classes from the same team makes sense to ensure consistency of outlook, Qiao said.

“It would be odd to have an equity fund positioned for rate hikes and a bond fund positioned for rate cuts, so a single team-based approach for asset allocation funds makes more sense than for security selection funds,” she concluded.

Ahead of the autumn Budget on Wednesday 30 October 2024, speculation is rife about which taxes chancellor Rachel Reeves will enact. One idea that has been greeted by an outcry is removing inheritance tax relief from shares listed on the Alternative Investment Market (AIM).

Business relief, which allows investors to pass on business assets to their beneficiaries free from inheritance tax when they die, currently covers AIM-listed shares, which is why they have become an important part of intergenerational wealth planning for many financial advisers, wealth managers and their clients.

Peel Hunt predicted in an interview with the Financial Times that if business relief were removed and financial advisers encouraged clients to sell their shares, the valuations of AIM-listed companies could fall by a third.

Victoria Stevens, a fund manager in the Liontrust Economic Advantage team, thinks abolishing business relief would be an own goal for the chancellor, flying in the face of her pro-growth mission.

“The government has explicitly set out an agenda to promote economic growth in the UK by supporting investment into the engine of that growth – the companies right across the country which employ local workforces, innovate to develop new products and services and already pay back a substantial amount in tax,” she pointed out.

“The UK’s junior stock market was set up for the very purpose of supporting these growth businesses and it would be a contradictory and painfully ill-judged move to withdraw this important incentive at the very moment when such companies would otherwise, finally, be looking forward to the prospect of a strong revival in their hard-hit share prices with the improving economic backdrop.”

Jessica Franks, head of investment products at Octopus Investments, agreed. “Providing investors with business relief on qualifying shares in unquoted and AIM-listed companies should be seen as one of the big success stories of the past 20 years or so. It has encouraged suitable investors to take more risk with some of their capital, investing it in growing businesses for the long term,” she said.

The risk/reward characteristics of enterprise investment schemes (EIS), venture capital trusts (VCTs) and AIM stocks would all change without tax relief, Franks said, “making them unsuitable for many existing investors and significantly reducing critical support for UK capital markets”.

“AIM has never existed without business relief, so concern around the impact of its removal is understandable,” Franks concluded.

For Stevens, however, any short-term negative sentiment stemming from taxation concerns would be a buying opportunity. “Given the absolute and relative underperformance of the AIM market since early 2022, a great many of our holdings are already trading at extreme discounts to their long run average valuation and yet nonetheless continue to exhibit strong fundamentals and growth prospects,” she said.

“We are therefore ready to take full advantage of any shorter-term sentiment-driven impact on share prices if there is a level of indiscriminate selling.”

Meanwhile, demand for AIM-listed shares is holding up, according to Puma Investments. It recently launched its Puma AIM VCT – the first new AIM VCT to be launched for 17 years – in response to “strong demand from the financial adviser and wealth management community”, a spokesperson said.

Octopus AIM VCTs also launched a £30m fundraise this week.

The performance of AIM VCTs in general has been “lacklustre” during the past few years but there are reasons for optimism going forward, said Nicholas Hyett, investment manager at Wealth Club.

First, “a lot of the pain is now in the rear view mirror” and valuations are consequently low, “creating scope for a recovery if sentiment turns”. Second, if Reeves decides against taxation changes, Hyett thinks “a flurry of new listings could reinvigorate the market”.

“Finally, the pain suffered by the highest risk AIM companies mean AIM VCT portfolios are now weighted towards the more mature investments they made years ago,” he concluded.

“For contrarian investors, the appeal of backing an unloved market (AIM) within an unloved country (UK), may prove an enticing prospect. An AIM VCT provides access to this theme with 30% income tax relief and tax-free returns.”

Thin summer liquidity conditions, coupled with crowded leveraged positions, set the kindling for a potential market shock. In early August, all it took was a spark – the Bank of Japan’s (BoJ) move to tighten monetary policy – to ignite an extraordinary volatility shock.

However, while the yen carry trade certainly played a part, it is more a convenient ex-post narrative to explain the price action than a true driver of the volatility. The scapegoating of the yen carry trade ignores the start of a bigger and deeper trend.

When talking with clients in 2023, I sometimes referred to the BoJ as the San Andreas fault of finance. That was early, but I believe that we have just seen the first shift in that fault, and there is more to come.

BoJ loosens yield curve control

The BoJ has started gradually hiking rates and loosened its yield curve control policy, which uses Japanese government bond (JGB) purchases to essentially cap yields. The BoJ moved the upper bound of its benchmark rate to 0.1% in March from -0.1% – where it had been since early 2016 – and raised rates again at the end of July, bringing the upper bound to 0.25%.

At its June policy meeting, the BoJ said it will start to ‘significantly’ scale back its asset purchases from its current ¥6trn monthly pace over the next one to two years. It took a step further in July by saying it would slowly reduce the buying pace, aiming to halve its current monthly amount by early 2026.

But the massive amount of JGB issuance needed to fund the country’s deficit means the central bank likely will not stop its purchases or let its balance sheet run off by not reinvesting the principal from maturing bonds, as the Federal Reserve has been doing since June 2022.

Domestic investors could return

Not surprisingly, JGB yields have been rising. In late August, a 30-year JGB hedged to the dollar provided a yield greater than 7%. To put this into context, the 30-year US treasury yield was roughly 4%.

One would need to stretch far down the credit ratings scale to low investment grade or even high yield to match the dollar-hedged JGB yield in the US credit markets. In a world of massive debt issuance, where different issues compete for a limited amount of funds, yield matters.

At some point, higher Japanese yields could attract the country’s huge life insurance and pension investors back into JGBs from other high-quality government bonds, including treasuries and bunds. In effect, this would rearrange demand in the global market. I believe an overweight allocation to JGBs would benefit from this shift.

A corresponding underweight position in treasuries would benefit from upward pressure on treasury yields as Japanese institutional investors move out of the US and back into Japan. Other factors – including the country’s deteriorating fiscal situation and the accompanying elevated levels of new treasury issuance – also lead me to expect higher US yields on the longer-term horizon.

Inflation may mean more tightening

This approach is not without risk. Japanese inflation could wind up higher than expected in the second half of the year in the event of continued weakness in the Japanese yen or unexpectedly strong wage growth. This could lead the BoJ to raise rates again at its October meeting and slow its asset purchases further.

Weakness in the Japanese yen could, all else being equal, lead the BoJ toward more rapid tightening. But cuts from other developed market central banks would offset this to some degree.

Earlier in 2024, the yen hit its weakest point against the dollar since the mid-1980s and its lowest versus the euro since the introduction of the eurozone currency in 1998. But with the Fed seemingly eager to lower rates and the ECB having already started to loosen policy, the BoJ will not be under as much pressure to make Japan’s rates more competitive.

Astute investors should be aware

Overall, while the yen carry trade was again a convenient explanation, I sense the broad market volatility in early August was the start of something, as opposed to the end. BoJ tightening and the impact it will have on the flow of global capital is far from simple, but it will have a large influence over the next few years.

However, in the context of other megatrends, such as unsustainable fiscal expansion in a number of developed countries, volatility should not be a shock – it should be more the norm. Put a different way, there were several tailwinds that had existed for investors since the global financial crisis.

Like it or not, the wind has changed, and the next few years could be tougher. The shifting global capital flows resulting from the BoJ’s tightening is one of those changes, and astute investors should be aware of the impacts.

Arif Husain is head of fixed income at T. Rowe Price. The views expressed above should not be taken as investment advice.