Fitch: European multi-asset funds need to rethink asset allocation
European multi-asset funds need to rethink their asset allocation and market timing, particularly capital based-asset allocation, warned a report released today by Fitch Ratings.
The agency said the performance of European domiciled multi-asset funds recovered by the third quarter of 2012, following a disappointing 2011.
But even if average returns in the Lipper Global Mixed Asset (EUR,GBP,CHF) category over three years now better meet investors’ expectations and asset-liability matching requirements, they still fall significantly short over five-year horizons.
“Surprisingly, flexible allocation funds that have larger latitude in their investment decisions have been doing particularly poorly on average,” Fitch said
The lack of positive risk premiums in equity markets since 2007 has been detrimental to the long-term strategic asset allocation (SAA) of multi-asset funds.
“Investors increasingly scrutinise SAA adequacy to better match their investment objectives and are looking for more low-risk and income-oriented products,” the agency added.
Moreover, volatile markets without clear trends impaired tactical asset allocation, and funds’ diversification has suffered from a rise in asset class correlations. Even global macro hedge funds had difficulties coping with markets’ risk on/risk off scenarios.
Managers have also started to rethink their portfolio construction process and address more efficient risk budgeting to protect themselves from undue risk concentration.
“Alternative rule-based concepts like risk parity, constant proportion portfolio insurance, maximum diversity or the minimum variance approach represent a deterministic way of defining allocation and avoiding pure judgment calls on the direction of risky assets,” Fitch said.
However, rule-based portfolio rebalancing is intentionally dependent on past volatility.
The agency added: “Allocation weights towards fixed-income assets put such funds, particularly leveraged ones at risk should global interest rates reverse their year-long decline. A more stable macro environment may also cause high beta stocks to outperform expectations.”
Fitch believes a qualitative overlay is needed to capture structural changes and/or market overreaction and that risk-based allocation can add to style diversification among investors’ portfolios.
“Managers with a blend of qualitative and quantitative approaches seem best positioned to meet allocation and market timing challenges in multi-asset funds,” the agency found.