How to find value in a volatile market
A correction can be a good time to add on weakness – but capital protection should still be key
OVER the course of last month, investors pulled around $12.2bn (£7.5bn) out of emerging market (EM) equity funds, according to EPFR data. And this month’s headlines have been no less dramatic, with the S&P 500 suffering its worst start to February since 1933.
A number of analysts think the drop in investor confidence in EMs has caused sharper market declines than the fundamentals would justify. But James Robson of Plutus Wealth warns that, with the prospect of a “normal” US monetary policy, fears around financing for EMs could remain. With this in mind, investors will rightly question where the best opportunities for capital protection lie.
IN THE DEEP END
First, however, those with a high risk tolerance may be tempted by the fact that EMs are historically cheap, and could selectively dip their toes in. But EMs are not a homogeneous group – investors could be waiting decades for recovery in some, while the likes of Mexico are seen as unfairly tarred. There are also sectoral differences. In its value-oriented strategies, JP Morgan Asset Management (JPMAM) has more exposure to EM domestic cyclical sectors like consumer discretionary. In addition it has identified commodities and exporters as most vulnerable.
Lead fund manager Tony Lanning tips the GAM Star China Equity fund. And Richard Troue of Hargreaves Lansdown thinks the best way to gain exposure is via a regional fund. He likes the Aberdeen Asia Pacific Equity, run by the same team as the Edinburgh Dragon Trust – an investment trust currently trading on a discount of around 12.5 per cent. For income-seeking investors, he tips the Newton Asia Income fund, currently yielding almost 5 per cent.
But with the crisis still evolving, this is a high-risk strategy.
SOURCING VALUE
There are few really compelling value opportunities at the moment, however. US equities are looking expensive, though Troue thinks another good year for the US stock market cannot be ruled out. Peter Sleep of Seven Investment Management points to the T Rowe Price Large Cap Growth fund, which rose by 45 per cent last year. Its managers are “unafraid to invest in stocks of tomorrow, like Google or Amazon.”
He thinks Continental European equities continue to look attractive, and likes the Man GLG Continental Europe Plus ETF, which has beaten the European market on a consistent basis by 1 to 2 per cent a year.
THE SAFE HAVEN
But it isn’t all bad news. Gold mining-focused funds have staged a mini-resurgence, topping the list of top performers in January after a torrid 2013. And there has been a rush to purchase the precious metal, as investors look for an element of safety. “Looking forward, investors often want to diversify away from the traditional equity/bond split. This, combined with demand from China and India, could put positive pressure on the underlying asset price,” says Robson.
Neil Gregson of JPMAM disagrees, however. “While gold’s safe haven appeal is being boosted in the short term by EM volatility, gold miners are likely to remain under pressure from declining prices.” Investors looking to get exposure may want to consider a balanced portfolio that invests across equity-linked commodities.
And while a diversified portfolio is regarded as the investment Holy Grail, this can be easily forgotten when markets appear to be rising in a straight line. Investing in fixed income may have become less popular of late, but it has its place in a portfolio – especially for times like the last month (see box).
Of course, all investments carry risk – even cash, given how few savings accounts offer real returns. So for the more cautious investor, Sleep likes the Vanguard UK Short-Term Investment Grade Bond Fund, currently yielding at around 2.1 per cent.
Jason Hollands of Bestinvest, meanwhile, thinks we may be entering a period which is more conducive to absolute return funds, driven by the withdrawal of central bank support. He tips the Insight Absolute Insight fund and stock exchange-listed BH Macro.
OPTIMUM STRATEGY
Investors do get superior returns for tolerating volatility, however. So Lanning balances high conviction equity positions with assets that will provide protection should the economic or earnings outlook disappoint. As such, he includes core government bonds across the JP Morgan Fusion Funds, in varying degrees.
But where to invest is only half the battle – it is very difficult to profitably trade in and out of volatile markets. Instead, investors should buy on a regular basis and try not to get distracted by market noise. Hollands recommends phased investing. “You can do this by funding your Isa or pension accounts with cash to secure the allowance, then drip feeding in over a period of months,” he says.