Q1 2021
PAN-EURO – COMMON INVESTMENT PATTERNS
Fund buyers across Europe are widely different as they serve clients with very different risk profiles. However, few patterns have emerged regarding asset classes where investors see value in, or are concerned about.
Debt markets are the largest markets in the world. Thus, their performance exerts a massive influence on all asset classes. Many investors hoped that the debt market would not surpass the historical debt caused by the financial crisis in 2008, but in 2020 they have been proven wrong. Global bond yields have further declined sharply as COVID-19 has caused massive disruptions around the world. Governments worldwide have increased spending in recent months to rescue the economy and most surely will need to tap into bond markets until the situation clears up.
PAN-EURO – ZERO-INTEREST RATE TO REMAIN
European selectors believe that the volatility in the economy will continue for the duration of 2021 or, at the very least, until the vast majority of the population has been vaccinated. This is an optimistic forecast, as there does not seem to be an end to the accommodating monetary policy or a rise in interest rates. Therefore, the zero-interest rate environment – and the sanitary crisis – are both having a major impact on asset allocation and tactical asset allocation. As a result, many fund selectors are holding a significant (3-10%) cash reserve.
FIXED INCOME – SEARCH OF YIELD IN RISKIER DEBT INSTRUMENTS
Most fund selectors are taking a neutral or negative stand to fixed income. Within the asset class, they have opted for different strategies: reducing duration, allocating to riskier illiquid assets or increasing their flexibility to reallocate within the fixed income space. 63% have reduced their exposure to government bonds while allocation to riskier bonds in search of yield has increased in areas such as high yield bonds and emerging market debt. Exposure to convertible bonds has dramatically reduced, as 75% of fund selectors mentioned either having no allocation or being underweight – an asset class that has never been mainstream, due to its mixed nature and complexity. However, it is worth noting that of the 25% of fund selectors who are neutral or overweight, 50% are based in Switzerland followed by Germany, the UK and Portugal.
EQUITIES – GLOBAL AND EMERGING MARKET STILL IN FAVOUR
2020 had two bull markets and a short-lived bear market in the middle. This is not rare, but fund selectors are still concerned about the speed of this current market recovery. Investors that did not panic and held onto their long-term views were compensated handsomely. Aware that timing a style-swap is nearly impossible, most fund selectors followed a blended approach combining value and growth funds or investing directly in blended managers.
Managing money on behalf of clients to a great deal requires some understanding of client psychology, which is evident in the rise of thematic investments. While many fund selectors invest thematically and tactically, not just geographically – we interviewed few investors who confessed that their overweight in thematic investments was largely due to the fact that it provides a compelling story for clients. “The client is emotional, and he loves buying into a good story” we were told.
ETFs – THE RISE OF ETFs
The allocation to passive investments has certainly increased but – in the case of ETFs – the difference from country to country is significant. Those differences are linked to investment culture, tax regulations and views on the business model of the distributor. A couple of fund selectors admitted that they do not actively distribute ETFs because of the lower fees and commission.
25% of the selectors interviewed are not using ETFs, while 40% have less than 10% of their assets in passive investments. Many insist that they are paid to find something more effective than an ETF.
The Dutch are the largest passive investors with 40% of their total assets in the country. However, Dutch selectors point out that this will possibly be the maximum amount allocated to ETFs, following a phenomenal rise, and that the trend has come to a halt. They observe that the overriding emphasis on cost of the Dutch Authority for the Financial Markets (AFM) is one of the reasons for this advent of ETFs.
When asked if fund selectors use ETFs as part of their core strategy, or hold a satellite position, 83% admitted to using ETFs as a satellite position or tactically. Those seldom investing in ETFs, merely invest either for the short-term or hedging.
80% invest in plain vanilla solutions. Smart beta has not been popular with our interviewees. Some argue that if they are opting for a thematic mandate, they would rather pay extra for an active strategy and the portfolio manager’s stock picking abilities.
ALTERNATIVE INVESTMENTS
The alternatives space has been a beneficiary of the market disruption caused by COVID-19 and the low interest yield environment.
Most investors are overweight or neutral in alternative assets. However, this has not necessarily led to an increase in flows to external funds and third-party asset managers. On the contrary, since the credit crunch, large institutional investors have been steadily developing their internal capabilities in areas such as real estate (listed and non-listed) and private equity to increase their control on the illiquid parts of their portfolios.
In the case of Scandinavia and The Netherlands, local players have invested heavily in domestic infrastructure and real estate as a safe option with a good risk-return tradeoff.
Private equity, commodities and insurance related strategies have gained momentum as well. Although, liquidity remains a major concern for many fund selectors with exposure to alternative strategies via alternative UCITS funds.
Crypto currency has been mentioned in quite a few conversations, with most investors agreeing that the best way to gain exposure is via mutual funds.
Gold – as the ultimate safe heaven against political unrest and inflation – is most popularly invested in via ETFs and trackers, among our interviewees. The preferred way is to select a fund that invests in gold mining stocks. These companies are uncorrelated to the general equity market and can still show a profit in times of flat or even declining gold prices – a safe heaven.
ABSOLUTE RETURN – DISSAPOINTS AGAIN
Even though absolute returns were designed exactly for unprecedented and volatile times, its peer groups have widely disappointed the fund selector community. “Our absolute return managers have beaten their peers widely, but only because their competitor’s performance was even poorer. All in all our absolute return funds were not worth their salt.” said a selector who usually holds a 5% allocation in absolute return strategies.
MULTI-ASSETS – THE EUROPEAN DIVIDE
Multi-asset is another strategy that fund selectors are shying away from, in spite of having significant allocations in such mandates. Nowadays, multi assets funds are run in house as an overall strategy as most investors are reluctant to delegate their asset allocation to external managers.
There is an apparent divide between northern Europe and southern Europe. While northern European fund selectors want to hold on tightly to the reins of their allocation, their southern European colleagues are selecting external multi-asset funds regularly.
ESG – THE WAY OF THE FUTURE
ESG is another area where there is a divide between northern and southern Europe. Almost all influential investment companies in northern Europe comply with the United Nationssupported Principles for Responsible Investment (PRI). While in southern Europe fund selectors agree that ESG is the future, it is far from being mainstream. This is predominately due to client demand and, to a lesser extent, the lengthy due diligence process required to initially implement. The demand for ESG in northern Europe is driven mostly by institutional investors. Most investors agree that being ethical and socially responsible leads to positive changes in the environment and society in general. Beyond this, the definition of ESG is open to interpretation. There are two major concerns when it comes to ESG; one relates to its potential benefits and pitfalls and the second around greenwashing.
Nevertheless, most fund selectors believe that they can invest ethically in almost any asset class and enjoy the same, if not, better returns in the long term. The majority of fund selectors believe that a well-defined ESG policy helps to mitigate risk from governance scandals to environmental disasters.
Evenco International Research Team hugely enjoyed conducting the interviews that helped us to shape this report. We would like to thank all of those that participated.
