These are unprecedented times for the financial services sector and it has been a torrid time for any manager in charge of a financial services equity fund. In this article we’ll look at what has helped the better performing financials funds available to UK investors out stay afloat better th
an their peers.
Industry Exposure has been important.
A major part of the astounding difference of 33.5 percentage points between the average top- and bottom-quartile performers over the past six months has been a result of managers’ industry allocation decisions. Indeed, the worst performing UK-domiciled fund during the six months to 18 December 2008 was JPM Global Financials which had 19% of assets invested in capital markets stocks and 43% in commercial banks - the better performing funds had relatively light exposures here. A large proportion of such companies’ revenues are derived from consumer and corporate lending so the seizure of the credit markets, and the costly price of credit whenever it has been available, puts such companies’ earnings in serious doubt. The exposure to investment banks has also been kept to a minimum by the top-quartile performers. The implosion of Lehman Brothers and the saving of Merrill Lynch by Bank of America is just the tip of an iceberg as the industry reels from losses in earnings from merger and acquisition activity and asset management divisions.
That said, there has been a pocket of the sector that offered a degree of solace. With the exception of AIG, non-life insurance stocks held up reasonably well and in the six month period to 18 December 2008, the FTSE AW Non-Life Insurance Index outperformed the FTSE AW Financials Index by 13.9 percentage points. Unsurprisingly the top-quartile managers had notably higher exposures to insurance stocks over the six months to 18 December 2008. Hiscox Insurance Portfolio – a fund which only invests in international insurance stocks – turned in a positive return of 1.86% over the same period, buoyed by specialist insurers such as Arch Capital, Amlin PLC, and American Physicians Services Group.
Asset allocation decisions have also been crucial.
Strategic asset allocation has also been the key during the downturn. The top-quartile funds in the category did a better job of managing their fund’s asset allocation to cope with the severe downturn in the sector. On average, those funds that held up relatively well in the six months to 18 December had greater exposures to cash and notably more invested in bonds, in particular government instruments. Indeed the top-performing financials sector fund in the period is Phillip Gibbs' Jupiter Financial Opportunities . He began placing the fund’s assets into the perceived safe havens of cash and long-dated government bonds - at the expense of equities - during the first quarter of 2008. The fund held just over 30% in cash and almost a quarter of its portfolio in bonds by the end of May 2008 which has led to turn an impressive return of 16% in the six months to 18 December 2008. Gibbs also held greater exposures to insurance companies and kept his holdings in UK consumer-facing banks at a minimum. While investors would have bought the fund for financials equity exposure rather than cash and bonds, Gibbs is one of the few managers who we believe has the experience and expertise to manage such asset allocation calls well.
Know what you own: A note of caution to investors.
Amid bleak prospects in the financial services sector, some managers in the category have been adding to their holdings in investment trusts that are unrelated to the sector. Consequently investors may be inadvertently getting exposure to a particular asset class. For example, the top holding in the JPM Global Financials fund is the Templeton Emerging Markets Trust . The closed-end fund only holds around 25% in financials services companies and - as the holding accounts for just over 4% of the fund - there is now significant exposure to emerging markets that is likely unintended by fund shareholders. New Star Global Financials also holds – albeit with less weight – the Templeton investment trust and the New Star Private Equity Investment Trust. Investors would presumably not have bought this fund for its exposure to emerging markets or private equity investments.
