Before the global economic downturn, most of us in the industry thought strategic asset allocation was fine, but the crisis exposed the fact that the risk analysis on some positions – and products – was wrong.” So says Cath Tillotson, managing partner at wealth management consultancy Scorpio Partnership.The paradigm shift Ms Tillotson describes has resulted in two things: firstly, many investors see a strong argument for fleeting, tactical investments to complement long-term strategic asset allocation. And secondly, the choice of products used for tactical positions – and how these products are presented to clients – has become something of a hot potato.
This means private bankers must now carefully reassess not only which products are best suited for tactical investing, but also how best to handle the thorny business of promoting them to clients. The flipside is a key question for asset managers: how should they market their products to private banks in the new environment?
In the May edition of PWM we looked at how selected tactical investments can be as important as long-term strategic asset allocation. While not everyone agrees on the merits of tactical moves, there are increasingly compelling arguments for investing short-term.
Christian Goldsmith, investment specialist for global balanced solutions at BNP Paribas Investment Partners, which has a 24-strong team of tactical specialists, says: “We do strategic asset allocation to drive longer-term returns but there is always something in there that turns out to be wrong, or at least underperforms, so a tactical overlay is vital in allowing you to manage the downside and gain extra returns.”
The French fund house’s tactical team, which offers a global tactical asset allocation product as well as running segregated portfolios, takes positions of between one week and a year.
QUICK EXPOSURE
If we ask which products facilitate this style of investing, the majority of tactical investors, including Mr Goldsmith, tend to favour exchange traded funds (ETFs) and similar instruments such as exchange traded commodities, useful for quick exposure, via commodities, to various countries and currencies. ETFs are seen as ideal for deploying large amounts of capital fast; sums in the tens of millions can be invested on a same or next day basis.
While investments in active mutual funds can also be executed quickly, ETFs have a huge cost advantage, levying 0.3 to 0.4 per cent compared to 3 to 4 per cent for retail share classes of the average mutual fund.
“For simple tactical asset allocation calls ETFs are cheap and efficient,” says Michael Rist, head of investment advisory services at Bank Julius Baer. “For example, if you want to increase your exposure to equities for some weeks, they are simply the best product to use.”
While it can be difficult to motivate some distributors to sell ETFs, they will become even more appealing in the UK, following the implementation of the findings of the Retail Distribution Review (RDR) in 2013, which will outlaw commission on the retail side. “The RDR will mean all listed products generally coming to the fore,” states Scorpio’s Ms Tillotson.
Finding the perfect fund to support a tactical strategy can prove tricky, says Mr Rist at Julius Baer. “If you want something very specific – say your strongest call on equities is European large cap value stocks – you will have to dig deep to find a fund and you will probably only find an active one that mirrors your idea.”
Liquidity is often the key issue. “If you do tactical asset allocation into an area with funds that are too small, you will swamp the fund but you do not want to own most of it so you have to avoid that,” warns William Drake, co-founder and director at Lord North Street, a private investment office with wealthy family clients.
“We are particularly nervous about funds that are not so liquid, as the whole point of a tactical move is to take advantage of short-term mispricing,” he says.
Burkhard Varnholt, chief investment officer at Sarasin, says the less liquid the instrument, the less suitable it is for tactical moves: “Hedge funds and private equity should not be part of any tactical approach.”
Assuming the private banker manages to track down the right instrument, getting the client to agree to the investment fast is essential. “Timing is everything,” he says. “It is critically important to make sure the investor is invested in the right product at the right time. After all, if you invest at the bottom you could get a 20 per cent return.”
But promoting these products to the prospective client is not always such a straightforward business, claims Scorpio’s Ms Tillotson. “Clients have become deeply suspicious of commissions,” she says and they may also feel uncomfortable with their wealth manager promoting their own in-house products.
