Last year was kinder to UK multi-asset funds than 2022, at least in an absolute sense. Several allocation categories showed modest positive returns, a stark contrast to the widespread losses experienced across the board in 2022.
But while absolute returns were better in 2023, managers have struggled to keep up with Morningstar’s allocation category indexes, which are used to benchmark the performance of funds in Morningstar GBP allocation categories.
Although fund performance should be judged over longer periods, it is interesting to delve into what’s been shaping these shorter-term deviations.
Average net equity exposure fell from 41.5% at the start of 2022 to about 25% at the start of 2023, where it has remained
Since the beginning of 2022, we have seen managers in aggregate reducing their exposure to equities in favour of bonds, which, after their big sell-off last year, looked more appealing for multi-asset portfolios than they had in some time.
For instance, in the GBP allocation 40-60% equity category, housing typical ‘balanced’ funds, net equity exposure stood at 44% at the end of October 2023, a decrease from over 50% at the start of 2022. Meanwhile, exposure to bonds rose from around 30% to over 40%, with both corporate and government-bond allocations increasing.
The Morningstar allocation category most lagging its Morningstar benchmark last year was the GBP flexible allocation category, which is benchmarked against a 50% equity/50% fixed income and cash index.
In a category where funds often focus on preserving capital, managers’ current caution is evident, with average net equity exposure falling from 41.5% at the start of 2022 to about 25% at the start of 2023, where it has remained.
The ‘magnificent seven’ stocks contributed 1.9% to the total return of the Morningstar UK Moderate Target Allocation Index, or almost all the total 2% contribution from all equities
While such defensive positioning proved successful for some funds in 2022, the same strategy has not been rewarded in 2023. WS Ruffer Diversified Return, for instance, achieved an impressive 5% positive return in 2022, outperforming the category average and index, both of which fell by more than 9%. However, in 2023, its defensive positioning resulted in a loss of more than 6%, emphasising the different driving forces in markets.
Bonds modestly lost money for sterling investors in 2023 while equities posted gains. This means an underweighting to equities, relative to a benchmark, has been a handicap for UK multi-asset funds.
Another challenge in 2023 has been the narrow concentration of equity returns. The dominance of the “magnificent seven” US mega-cap stocks—Microsoft, Nvidia, Apple, Amazon, Meta, Alphabet, and Tesla—has been widely noted. These stocks have exerted a significant influence on US and global equity benchmarks, impacting multi-asset benchmarks as well.
For example, in the first 10 months of 2023, these seven stocks contributed 1.9% to the total return of the Morningstar UK Moderate Target Allocation Index, or almost all the total 2% contribution from all equities.
Another pitfall for multi-asset funds last year was exposure to alternative-type assets, including investment trusts and commodities
Meanwhile, at a broader stylistic level, global growth equities outperformed global value equities by over 10 percentage points last year in sterling terms. These disparities underscore the importance of equity selection, as well as making the correct asset-allocation decisions, for multi-asset funds.
Another pitfall for multi-asset funds last year was exposure to alternative-type assets, including investment trusts and commodities. While some of these assets held up relatively well in 2022, their returns were comparatively poor in 2023.
Risk-off sentiment has contributed to widening discounts on closed-end funds investing in areas such as property, infrastructure and renewables. Additionally, certain specialist plays, such as music royalties and social housing, have seen their investment rationale questioned. While in commodities, most, apart from some exceptions including gold, have declined.
Despite these challenges for multi-asset managers, differing approaches can achieve outperformance.
Despite these challenges for multi-asset managers, differing approaches can achieve outperformance
The BNY Mellon Multi-Asset Balanced fund, in the GBP Allocation 60-80% equity category, emphasises security selection over major changes in asset allocation. Managed by BNY Mellon subsidiary Newton Investment Management, the fund has consistently outperformed peers under the lead of manager Simon Nichols.
Nichols focuses on adding value through successful stock-picking, backed by Newton’s multi-asset team and broader analyst resources, which has helped the fund outperform peers across a variety of market conditions and was evident again in 2023.
In contrast, the Vanguard LifeStrategy series adopts a static asset allocation, investing in passive funds and ETFs. The funds have demonstrated long-term success against their peers by capturing market beta at low cost and avoiding unsuccessful attempts to time markets or pick securities.
Their constant equity exposure has been a benefit, with the 80% equity fund ranking in the sixth percentile versus its peers. However, the more cautious funds have been held back by the relatively long duration of their fixed-income holdings.
Tom Mills is senior manager research analyst at Morningstar UK
