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The professionals’ safe havens for investors looking to hedge portfolios

30 August 2017

FE Trustnet asks industry commentators which assets they are holding or would look to hold in times of market volatility to protect their portfolios.

By Jonathan Jones,

Reporter, FE Trustnet

Cash, absolute return strategies and inflation-linked gilts are among the favoured ‘safe havens’ among analysts, but diversifying risk across multiple assets remains the most popular option. 

With many issues facing markets, including interest rates at all-time lows, equity valuations at record highs and geopolitical risks including North Korea, investors could be forgiven for looking to add a safe haven asset classes.

However, Anthony Rayner, multi-asset manager at Miton Group, reminded investors that there is no asset class that is a permanent safe haven as it all depends on the wider market context.

“For example, long-dated US treasuries might be quite helpful in a recession risk environment but less helpful in an inflation risk environment,” he said.

“As a result, currently, our approach is to remain less than fully invested, but in liquid assets, and to move to those safe havens that are most appropriate, depending on the type of risk-off event.”

Columbia Threadneedle Multi-Asset Portfolio manager Maya Bhandari, agreed, noting that it really depends on what one is seeking a safe haven from.

“Ultimately, it boils down to your investment process and philosophy. For strategies like Threadneedle Dynamic Real Return, which has a target return of CPI plus 4 per cent and a volatility limit of two-thirds of equity volatility, we tend to own low risk assets so as to gain exposure to high risk assets.”

However, there are some assets that analysts are holding specifically to hedge. Below FE Trustnet asks what they are using currently or would look to add quickly to their portfolios if they needed to take risk off the table.

Whitechurch Securities head of research Ben Willis said he would look to index-linked gilts in a time of crisis to protect his portfolio.

Index-linked gilts have had a strong run since the start of last year as inflation has risen, albeit slower than many expected.

Performance of index since Jan 2016

 

Source: FE Analytics

Indeed, as the above shows, the FTSE Actuaries UK Index-Linked 15-25 Years index is up 25.9 per cent since the start of last year as investors have feared rising inflation could hamper returns.

“From an investment perspective we don’t like them: they are overpriced, offer virtually no yield and only provide inflation protection if you hold them for around 20 years,” Willis noted.

“However, we have realised that whenever there is any sudden risk aversion, they become well supported.

“As such, even though we don’t like them from an investment case, we use them as a small hedge within our model portfolios in case our base investment case is wrong in the short term.”

Meanwhile, Architas investment director Adrian Lowcock suggests investors should look to an absolute return strategy for their defensive allocation.



“One of the issues with other safe haven assets is that in the current environment it is hard to know exactly what will trigger a sell-off in markets and therefore what the effect will be on other assets such as currencies,” he said.

“Investors point to the US and an embattled president, but it is rarely the expected issues that cause markets to sell-off. 

“Absolute return funds usually have a lot of factors driving performance and I like the JPM Global Macro Opportunities fund.”

The £798m fund, run by James Elliot, Shrenick Shah and Talib Sheikh, is a long/short strategy that aims to provide investors positive returns over a rolling three-year period in all market conditions.

Since its launch in 2013 the fund has returned 38.1 per cent with annualised volatility of 7.42 per cent and a maximum drawdown of 9.78 per cent.

Performance of fund vs sector and benchmark since launch

 

Source: FE Analytics

“The team believe that global macro trends are the main drivers of returns for asset classes and they look to identify and exploit these with the aim of delivering positive returns in all conditions and a priority on capital preservation,” Lowcock noted.

“Current themes include Japanese economic recovery, global political divergence and China in transition. The fund will invest in cash, equities and bonds and will use derivatives extensively to go short (sell) a sector.”

Mark Dampier, research director at Hargreaves Lansdown, disagreed with Lowcock, suggesting that cash is a better proposition for investors.

“I’m not of the view at the moment but if you think that global markets are suddenly going to crash – which would emanate I suspect from America because that tends to be the lead market – your safest haven is cash,” he said.



“If I suggest a defensive-type fund it might lose 10 per cent as opposed to losing 40 per cent but for a lot of clients they wouldn’t necessarily thank you for that.”

In terms of which currency he would hold (dollar, yen, sterling, euro etc.) the director said to “stop trying to be clever”.

“You’re really into Mystic Meg territory if you are trying to forecast the currency as well. Have you got a dartboard?” he quipped.

While the dollar traditionally holds up better than many other currencies as it is seen as the ‘global currency’, Dampier noted that sterling is probably the best place for UK investors as it is coming from a low base.

Performance of sterling vs dollar over 2yrs

 

Source: FE Analytics

As the above shows, sterling has been steadily falling over the last two years but was particularly impacted by the Brexit vote last year, which wiped more than 10 per cent off its value in a matter of days.

More recently, however, Dampier argued that it has been the strength of other currencies rather than the weakness of sterling that has kept it at low levels.

“I don’t feel right now that sterling is grossly overvalued. I wouldn’t have said it was grossly overvalued before Brexit but it was certainly a lot pricier, so you could have made a bigger thought of doing something with the currency then, but I don’t think that is the case anymore,” he noted.

“I think it is less obvious and if it is less obvious then you just don’t try and be too clever. That would be my port of call.”

However, he warns that investors that move into cash need to make sure they are not missing out on future returns by doing so.

“There have been people going into cash since 2012 but it hasn’t been a particularly bright thing to do as far as I can tell,” he said

“Everyone has been bearish and I term this bull market as the most hated of my lifetime because people have just been completely wrong on it.

“Everyone has continually been worried since the market bottomed [in 2008] and that is continuing to go on and I don’t know how long it will last.

“I think the danger is people overthink all this and I suspect that more money is lost in trying to forecast crashes then is actually lost in them.”

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