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Smith & Williamson’s four guards against inflation - and the funds to back it up

25 June 2021

James Burns of Smith & Williamson outlines the four guards his team are using against inflation as various central bank projections exceeded expectations.

By Rory Palmer,

Reporter, Trustnet

Investors aiming to inflation-proof their portfolios can look to gold, inflation-linked bonds, value strategies and short-duration bonds, according to James Burns, co-manager of the Smith & Williamson Managed Portfolio Service (MPS).

UK inflation measured by the consumer prices index (CPI) surged to 2.1 per cent in May from 1.5 per cent in April, exceeding market expectations and the Bank of England’s long-term target rate of 2 per cent.

While Burns does not anticipate inflation “roaring ahead” as the economy gradually re-opens, he does imagine it will remain more elevated than it has in previous years.

“The outlook for conventional bonds is less attractive in this environment and there is a need to diversify to asset classes and funds that will perform better when inflation is higher,” he added.

Below, Burns and Smith & Williamson’s MPS team explain how they are inflation-proofing their portfolios and the funds within them.

 

Inflation-linked bonds

“We have been overweight index-linked bonds for almost 10 years and both the AXA Sterling Index Linked and ASI Global Inflation-Linked Bond funds sit in the lower-end of the portfolio to play the inflation theme,” he said.

“There is no currency exposure in either – they’re very much an inflation play.”

Again, while Burns doesn’t expect runaway inflation, he said there doesn’t need to be a huge uptick in inflation for these funds to benefit the portfolio.

The £1bn ASI Global Inflation-Linked Bond fund has been managed by Adam Skerry since 2015.

The manager and the team look to deliver incremental performance over the Bloomberg Barclays World Govt Inflation-Linked benchmark and investors can expect a return profile similar to the overall market.

Analysts at Square Mile Investment Consulting & Research noted: “The team have built up a reputation for both in-depth analysis and a strong understanding of what drives inflation markets.

“This, combined with a detailed process and review discipline has led, in our opinion, to a fund which can take advantage of the opportunities available in inflation markets, but is structured enough to give investors comfort they will not get any nasty surprises.”

Performance of fund vs sector & benchmark under Skerry

 

Source: FE Analytics

Since Skerry took over, ASI Global Inflation-Linked Bond has made a total return of 24.61 per cent, while the average fund in the IA Global Inflation Linked Bond sector made 21 per cent. Its benchmark posted 28.35 per cent.

It has an ongoing charges figure (OCF) of 0.55 per cent.

 

Value equities

Burns said that the MPS portfolios are designed to blend value and growth funds, but he “expects the value contingent to perform better than pure growth funds over the coming period”.

He said: “Artemis UK SelectMan GLG Undervalued Assets and Premier Miton UK Multi-Cap Income are all longstanding positions which we have nuanced over the years and in an inflationary environment the value tilt of these funds should help their performance compared to that of growth funds.”

Looking at the £1.4bn Man GLG Undervalued Assets, the fund aims to find undervalued and unloved companies that have the potential to recover in the longer-term.

The team targets companies trading below the in-house estimate of replacement cost and their analytical work is assessing whether the replacement costs shown in the accounts is accurate.

According to analysts at Rayner Spencer Mills Research: “This fund delivers to investors a value-orientated approach and whilst in general the portfolio would be lower beta than the market, in times of market stress when stock correlations rise this will not necessarily be the case.”

Performance of fund vs sector & benchmark since launch

 

Source: FE Analytics

Since its 2013 launch, Man GLG Undervalued Assets has made a total return of 84 per cent, compared to 56.81 per cent for the IA UK All Companies sector and 49.20 per cent for the FTSE All Share index. This has been a period where, for the most part, value has underperformed.

It has an OCF of 0.90 per cent.

 

Short-duration bonds

Burns said: “We’re very underweight conventional bonds at the moment but where we do have exposure, we protect ourselves as far as possible by being short-duration, through funds like AXA US Short Duration High Yield and Liontrust Monthly Income.

“Even our most vanilla fund, Artemis Corporate Bond, is quite short-duration as well.”

The £538.5m “vanilla” Artemis fund invests in sterling-denominated corporate bonds, with a philosophy of exploiting inefficiencies in corporate bond markets.

The team at Square Mile commented: “While the managers are conscious that investors hold the fund for income, they will not chase yield to the detriment of capital and the level of income may fluctuate depending on the market environment.”

Performance of fund vs sector since launch

 

Source: FE Analytics

Launched in 2019, the fund has made 13.65 per cent against a 6.28 per cent gain for the IA Sterling Corporate Bond sector peer.

It has an OCF of 0.40 per cent and a 2.48 per cent yield.

 

Gold

Burns’ final guard is gold - the yellow metal is arguably the most popular hedge against inflation.

“When we initially bought BlackRock Gold & General in the portfolios in December last year, it didn’t have an immediately beneficial impact,” he said.

“However, we bought the fund with a longer-term view to diversify returns and provide some protection in challenging markets and this is a move that we expect will pay off as we transition into a more inflationary environment.”

The £1.3bn fund is the UK’s largest and longest established unit trust specialising in gold and according to Rayner Spencer Mills Research, is “one of the most highly-rated in the sector”.

However, Square Mile added that investors should be cautious given that gold mining shares can be very volatile and the index is more likely to have larger drawdowns than a global equities index, especially over shorter time periods.

Its analysts added: “We would therefore consider this fund to be more suitable for investors with a long-term investment horizon and who are willing to weather the volatility that can come from investing in this space.”

Performance of fund vs sector & benchmark since launch

 

Source: FE Analytics

Since 2010, BlackRock Gold & General has made a loss of 12.04 per cent, while its FTSE Gold Mines index posted a loss of 25.41 per cent over the same period.

It has an OCF of 1.17 per cent.

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Data provided by FE fundinfo. Care has been taken to ensure that the information is correct, but FE fundinfo neither warrants, represents nor guarantees the contents of information, nor does it accept any responsibility for errors, inaccuracies, omissions or any inconsistencies herein. Past performance does not predict future performance, it should not be the main or sole reason for making an investment decision. The value of investments and any income from them can fall as well as rise.