Money in, money out – where to next for global fund flows?
Insights from the performance of the top European funds
The table below lists the 12 biggest European domiciled funds based on asset size, as at 31 July 2014. These funds invest across various asset classes and sectors, are typically distributed across multiple countries and mainly target European investors. We thought it would be interesting to see how these funds have progressed in the last year in terms of assets under management (AUM) and performance. This will provide insights into where current investor money is flowing and where fund selectors currently see global investment opportunities.
Returns and change in fund size of the 12 biggest European funds for the 12-month period ending 31 July 2014
* Returns are for the 12-month period ending 31 July 2014
Source: Citywire, Lipper
Top funds suffer from a flow out of fixed income assets
From the table, we can see that 8 out of the 12 largest European funds declined in size over the past year.
In terms of net redemptions, the PIMCO Total Return Fund had the largest percentage decline in assets. In the 12-month period ending July 2014, its assets declined 40.5% from $27.96 billion to $16.62 billion, despite the fund returning 3.66% for the period. It is managed by PIMCO’s Chief Investment Officer and co-founder, Bill Gross. PIMCO stated that short-term retail investors who redeemed during the period of rising US interest rate yields and falling capital values of bonds were the driver behind the majority of outflows – investors were moving from intermediate duration bonds into shorter-term strategies and equities in anticipation of an expected rise in US interest rates during 2015.
PIMCO’s Investment Grade Credit Fund, managed by its Deputy Chief Investment Officer Mark Kiesel, is a more credit-focused strategy. The reasons for this fund’s 21.7% decline in assets are similar to the reasons for the decline in the PIMCO Total Return Fund, notwithstanding the fact that the fund was up 6.28% for the period.
One of Europe’s biggest mixed asset funds, the Carmignac Patrimoine Fund, managed by firm founder Edouard Carmignac, fell by 20.4% in AUM and returned 8.23%. This fund bucked the trend of a strong swing towards asset allocation funds, largely driven by some poor performance.
The Templeton Global Bond Fund, Europe’s largest US dollar fixed income fund with a size of $38.31 billion, declined by 17.9% in size. Although it has performed ahead of its stated benchmark over one, three and five years, it still suffered from the global reduction of fixed income as an asset class.
World-renowned emerging markets fund manager, Mark Mobius, also from Templeton, suffered a 15.2% decline in assets via the Templeton Asian Growth Fund. Although Asian equities (excluding Japan) were up 18.8% over this period, the fund underperformed its peer group by 4%, resulting in a decline of assets through investor redemptions.
A very popular fund amongst European fund selectors over the past few years has been the AXA US Short Duration High Yield Fund, managed by Carl Whitbeck. Its assets fell by 11.8% over the period. The fund focusses on US non-investment grade corporate bonds, which are currently providing investors with yields around 6%. It is a short duration fund, protecting capital values in a rising interest rate environment. According to AXA, outflows from the fund went into cash, equities and longer duration bond funds after US 10-year treasury yields spiked to around 3%.
The Templeton Global Total Return Fund, managed by Michael Hasenstab and Sonel Desai fell by 11.5% in AUM. However, performance was up by 6.0%. The fund is managed similarly to the Templeton Global Bond Fund, except that it has more of an absolute return strategy bias and can invest across multiple asset classes. These Templeton funds collectively make up $85 billion and are the two biggest funds in Europe in terms of AUM.
The AllianceBernstein Global High Yield Fund was the only other top 12 fund that declined. The fund’s AUM declined by 4.1% despite posting a positive return of 7.96%. Like most of the other fixed income funds, it suffered due to the rotation out of fixed income assets into other asset classes.
Multi-asset and equity funds show growth in assets over the last year
DWS Top Dividende Fund, an equity income fund managed by Deutsche Asset and Wealth Management, showed a growth in assets. This fund focusses on stocks that have a high dividend yield pay-out ratio. It holds a third of its holdings in US-based equities, with consumer staples (18.6%), healthcare (15.6%) and financials (15.1%) being the three main sector exposures.
The Newton Real Return Fund achieved double-digit growth, with AUM up 15.2% and a total return of 13.7%. This fund is managed on an absolute return basis and is currently invested 58% in equities, 14% in fixed income and the balance in cash or cash equivalent holdings. It is a UK domiciled fund targeting their domestic market. The fund has a bias towards UK-listed equities and fixed income as opposed to a more global approach.
The Barings Dynamic Asset Allocation fund grew assets by an impressive 25% over the period. The fund is also a multi-asset class fund and focusses on implementing active asset allocation strategies to take advantage of dislocations within the market.
Another well-known fund manager, Dennis Stattman, along with Aldo Roldan and Dua Chamby manage Blackrock’s Global Allocation Fund. This fund has shown phenomenal growth in assets of 41.4% over the past year, re-enforcing investors’ preferences for large, global fund managers with a strong brand presence. Much like the Barings Dynamic Asset Allocation Fund, this fund invests across multiple asset classes to provide a well-diversified solution to clients. It is global in nature and is currently invested 56% in equities, 20% in fixed income and 24% in cash. Of the 12 biggest European domiciled funds, this Blackrock fund attracted the most new net inflows by a broad margin.
Evaluating the merits of the ‘great sector rotation’
How can we interpret some of these results? The second half of 2013 leading up to the end of July 2014 could be defined as the period of the ‘great sector rotation’. Over the last decade, specifically since 2007 and the start of the global financial crisis, hundreds of billions of dollars flowed into the fixed income space. The key drivers of these massive inflows were a declining interest rate cycle, which drove up the capital value of bonds, and a need for an alternative to equities. Central banks globally have been keeping interest rates close to zero for the past six years to promote economic growth. This has resulted in a move up the risk curve to investment grade credit and high yield bonds in the search for greater income yield. With quantitative easing in the US now drawing to an end and markets expecting interest rates to start normalising sometime during 2015, money is starting to move out of the bond market (or being parked in very short duration bonds) and moving into global asset allocation type funds instead. These asset allocation funds very often have a more absolute return bias and provide a diversified portfolio that is exposed to equities, listed property, bonds and cash.
The question is whether this has been the right move from investors and fund selectors. As shown in the table below, high yield was the best performing sector within the fixed income space in the 12 months ending 31 July 2014. The Global High Yield Index was up 9.1% in US dollars, relative to US government bonds, which were up 4.6%. The average global multi-asset class fund was up around 9.7%, global listed property was up 13.4% and the MSCI AC Equity World Index was up 13.6%. For those funds mandated to hold bonds, high yield was the place to be, but those investors who moved up the risk spectrum were rewarded with higher returns.
Equity and fixed income returns for the 12-month period ending 31 July 2014
Data as at 31 July 2014
Sources: MSCI Indices, Bloomberg, Merrill Lynch Indices, JP Morgan Indices, S&P Indices.
Emerging markets are showing potential
Markets have also focussed a lot of attention on the emerging markets sector. Although there isn’t an emerging markets fund in the top 12 funds in terms of size, this sector has grown significantly over the past five years. Despite many headwinds in this space, emerging market equities have been on a relatively steady upward trajectory since the start of 2014. Investors are questioning whether they should add to their emerging market exposure or decrease it, from a cautionary perspective.
To guide you on this issue, we identified a few indicators to consider:
1) Stability in emerging market currencies – A more stable currency often signals an improvement in a country’s trade balance. This very often leads to an improvement in earnings per share growth for that country’s equity market.
2) Recovery of manufacturing-based economies – Manufacturing-based emerging market economies are showing signs of recovery based on the improving US economy and US-led consumption demand. This is leading to improved GDP growth within these economies.
3) Valuation – Currently, emerging market price earnings ratios are below their long-term averages (13.4 times versus the long-term average of around 17.5 times). This bodes well for future returns, which are very much driven by the price at which an investor enters the market.
In short, buying into emerging markets is currently not a popular trade, but that is often the most opportune time to buy. History shows us that equity market returns often increase before economic growth and earnings actually turn around. Those investors who continue to wait on the side lines may end up missing out on a significant portion of returns that could be made within this cyclical asset class.