In the current market volatility Justin Oliver, deputy chief investment officer at Canaccord Genuity, is taking shelter in alternatives as he tries to derisk his portfolio.
In markets today the challenge is not how to take risk, Oliver says, but how to reduce it and introduce meaningful diversification without paying inflated prices. The solution, at least partly, has been to increase the alternatives holdings across the group’s portfolios.
Oliver says the Canaccord funds are underweight both fixed income and equity but have recently increased their alternatives weighting. It is now 14 per cent in the group’s medium risk CGWM Select Diversity Fund. The lion’s share of this weighting is in three long/short holdings – the BNY Absolute Return Equity fund, the Old Mutual Global Equity Absolute Return fund and the Legg Mason Western Asset Macro Opportunities Bond fund.
He says: “We’re pleased that these funds seem to have held up well during August and September. In this environment, taking risk is easy, but reducing risk without paying the high prices for infrastructure or government bonds is more difficult.
“It is about looking for specific opportunities to dampen volatility, where we understand the strategy and it won’t go pop when interest rates rise,” he adds.
However, he is keen to ensure the alternatives funds he uses are all plain vanilla Ucits funds with daily dealing.
The group has long had a weighting in infrastructure in its alternatives bucket, through the HICL and Renewables investment trusts, but Oliver admits that for new money the premiums may now be too high and he has reduced the overall weight in the sector.
“They have done a good job for us, helping to dampen volatility, providing a dividend yield, and have been lowly correlated to equity markets. But there is a question mark over paying a 10 per cent premium for them,” he says.
Within the fund’s equity weightings, Oliver aims to keep a balance between styles in individual countries. He says: “Part of the problem is we might get our asset allocation right, but if we are in the wrong area of the market, we could lose our advantage. We try to blend styles. After all, Richard Buxton and Neil Woodford have both outperformed over time, so we would aim to have exposure to both.”
At present the group is near its benchmark weighting in the UK, which at 23 per cent is also its largest position. Its US positioning is also in line with its benchmark, though the group’s thematic exposure – notably healthcare and technology – bumps up the overall weighting. Europe is the group’s biggest overweight.
Canaccord holds nothing in Japan or emerging markets. Oliver says: “We are long-term bears on Japan. This has not been the correct positioning over the past two years, but we always struggle with it from an economic perspective.
“We are two to three years into Abenomics and the situation hasn’t really improved. The government is still having to pressurise companies to put through wage rises to get inflation figures back up. There continue to be sharp downgrades to growth and inflation.”
Even if Japanese companies are in good shape, says Oliver, the market will be deflated by the weakness of the yen. Ultimately, he concludes, “there are easier decisions to make”.
Emerging markets simply have too many problems, he says. Alongside their exposure to the commodities cycle, there are the huge dollar-denominated current account deficits and corporate indebtedness.
However, he has looked at specific country funds for the first time: “We have historically looked at broader emerging markets funds, but now we are looked at dedicated China and India funds and deciding whether we want to make a specific allocation. If we increase our equity weighting again, we might target specific emerging markets.”
The prospect of US interest rate rises remains a deterrent. Oliver says the group does not want to be “rushing in” to emerging markets, given the historic relationship between emerging markets and US interest rates. Otherwise, he says, he is trying to look past the “noise” around US rates to the longer term.
The group’s fixed income weighting is a blend of gilts – largely for risk reduction and diversification purposes – and global government bonds, including a small weighting in US Dollar Treasury inflation-protected securities and strategic or flexible bond funds. The latter makes up about half the 25 per cent weighting. This is substantially below the benchmark allocation to fixed income of 35 per cent.
Oliver adds: “We are more worried about problems in the bond space than in the equity space. Funds have flooded into fixed income over the last few years. Liquidity could well become an impairment.”
Although troubled about the situation in emerging markets, he is sanguine on China: “There are lots of fears about a slowdown in China and what that means for the rest of the world. It seems an over-reaction to the current situation. China’s economy is cyclical, like all economies.
“They are restructuring the economy as they did in the 1990s and pushing through structural reform. It should be for the longer-term good.”
Overall, Oliver believes this is an interesting juncture for financial markets. For the time being, he is buying selectively on market dips and trying to sustain a smoother ride for investors by incorporating alternatives.