08 March 2016

This is a clearly a tricky time in which to invest: Investors are understandably worried, with asset markets unpredictable and, in some cases, highly irrational. As multi-asset managers, we need to tread a careful balance, ensuring that we try to protect our investors from significant swings in the value of their investment, while trying not to endanger long-term income and capital returns by over-reducing risk. We have tried to keep our response considered, and in line with our longer-term views.

Overall, our response has been to reduce exposure to volatile assets, reducing equity exposure and increasing our weighting in higher quality credit, which has helped limit investor exposure to the turbulence since the start of the year. At the same time, we have focused on emerging value in selected areas: Markets may not be universally attractive, but the sell-off has created some real opportunities.

A new investing climate

Our view has been that 2015 was a transitional year. In 2014, our research shows that it was possible to achieve a relatively strong return, with relatively low risk, with almost any asset mix. In 2015, it was a very different picture and investors needed to be much more selective*.

At the start of 2016, we see this disparity in the potential returns between different asset classes continuing. This is reflected in our portfolios with a preference for credit over equities. We believe that, relative to equities, there is now more upside in certain parts of the credit market, with less downside risk – a reversal of the situation in early 2015.

Not the time for higher risk

Nevertheless, here too, selectivity is vital: We are not going bottom-fishing. Trawling around in high yielding energy bonds proved a disastrous trade for many non-cautious investors in 2015 and we believe it could be equally painful this year. These bonds are certainly cheap, but they are cheap for a reason. Nevertheless, some other parts of the high yield market - notably around the BB area - appear to offer value. Our portfolios tend to have a quality bias and our credit exposure in 2016 will likely be no exception.

The other area we have looked to for consistent income and capital stability in the portfolio is structured credit. This asset class is linked to the US property market.

US property market

The US property market appears attractive in this environment, as the US economy recovers and price rises gather momentum. To our mind, the best way to reflect this in the portfolio is through commercial and residential mortgage-backed securities, which have a healthy yield, but also an attractive risk profile. We are reassured by the narrow range of outcomes for the asset class, with relatively limited downside in exchange for a high and diversifying source of income. They are not linked to the corporate profit cycle and shouldn’t wobble if corporate earnings come under pressure.

Market volatility is always unsettling. It has become a cliché to say it, but it really is true that opportunities emerge when markets are less rational. As multi-asset investors, we have to ensure that we keep our heads and are not tempted to follow the path most travelled.

*Source: BlackRock, as at 12/31/15. The portfolio simulation includes all 10 asset classes filtered for only portfolios with an average yield of 4% or higher each month and a maximum turnover of 10% each month.

CARS ref: RSM-3353

Markets may not be universally attractive, but the sell-off has created some real opportunities