While simplicity in the multi-fund sector is widely regarded a thing of the past, the fundamental investment principles that guided the success of multi-funds still apply, albeit with a low-cost skew, Janine Mace writes.
In the old days, investing clients’ money seemed so simple.
If you were interested in the investment side of things, you developed an appropriate asset allocation and selected great assets and the best managers.
If you weren’t, you invested in a diversified multi-manager fund and left it to the investment experts.
But like most things, it’s not that simple anymore and as Lonsec Research’s senior investment analyst, Deanne Baker, explains: “There is now a much wider range of products to choose from.”
Whether it’s picking the best managers in an asset class, splitting the asset class to get uncorrelated exposures, focusing on smart beta, or taking a dynamic asset allocation approach, there is now a 'multi-something’ fund to do the job.
Traditional diversified multi-manager funds have evolved into a variety of exotic new species featuring a wide range of investment strategies. These days an adviser needs to look much more closely at what each fund is offering and how the particular manager is approaching the task of managing client money.
The changes occurring in the multi fund sector are in response to both the challenging investment conditions and the disillusionment felt by clients and advisers with fund performance during the financial crisis.
“Sentiment has improved, as advisers and clients were very disappointed after the GFC, and since then managers have done a good job on increasing exposure to other asset classes,” Baker explains.
“Managers have done a better job engaging with clients and focusing on client outcomes and less on what their peers are doing. Now there is a greater objective based focus in these funds.”
Geoff Kellett, head of sales at IOOF (MultiMix), believes advisers are again starting to see value in these products.
“We are seeing advisers and dealer groups taking a fresh approach to investment off the back of market volatility and growing pressure to justify their value to clients,” he says.
“There is renewed interest in these products and it is surprising that even long-term advisers are realising they are not adding value by picking managers and are considering alternative approaches.”
Stanley Yeo, portfolio manager strategy and international equity at IOOF, believes much of the renewed interest has been driven by the tricky investment conditions which have been a feature of the past few years. “Post-GFC returns have been subdued - especially in fixed interest and cash - and advisers have struggled, so increasingly they want to leave it to managers.”
He believes multi-fund products hold many attractions for advisers in the current climate. “One of the benefits is they outsource the investment risk. For advisers, with the increased complexity and regulatory risk, it is becoming harder to focus on the investment side of things.”
Constantly monitoring managers and the unintended risks in client portfolios is time-consuming, while the implementation risk can also be significant, Yeo notes. “With a multi-manager fund, you are moving the money more efficiently than an individual adviser can. We transition the assets properly and ensure there are no gaps in the portfolio for market risks.”
New strategies and FUM growth
The evolution of new investment strategies and funds occurring in the sector is resulting in shifts in asset flows.
Although Lonsec’s latest Multi Asset Sector Review shows multi-manager remains the largest strategy - with the average manager managing $22.5 billion in FUM - investor interest is changing. Inflows for multi-manager funds were relatively muted last year, in contrast to the dramatic FUM rise occurring in low-cost diversified strategies.
Low-cost funds have experienced extraordinary growth over the past 12 months as “investor appetite for cheap and simple diversified exposures exploded”, the Lonsec report noted. This was driven in part by the introduction of MySuper and ongoing regulatory change.
Starting from a very low base, real return funds also grew strongly, with the average manager reporting FUM growth of close to 50 per cent. Schroders is the largest player in this area and is managing around $3 billion in its real return strategy.
Diversified funds lagged in terms of FUM growth, with the Lonsec Sector Review noting these traditional strategies were “struggling to retain relevance in the face of increased competition from low-cost and real return style funds”. BT was the notable exception in this area.
According to Baker, the new inflow pattern highlights how different strategies are now resonating with advisers and clients. “Sentiment is very much sub-sector dependent, with strong interest in some areas. The traditional multi-manager and diversified fund sectors have been flat to negative. Diversified funds are often old money and it is slowly dribbling out.”
Some of the dollars flowing into the newer strategies may be a result of the level of noise around the claimed benefits of real return or multi-asset funds. Many of their proponents argue strongly that this style of investing represents the way of the future.
Andrew Lill, Ibbotson Associates’ chief investment officer Asia-Pacific, is one commentator who expects to see these strategies become increasingly popular. “The real return approach was adopted earlier in the UK and I will be surprised if it does not become the normal way of doing things in Australia, as it makes a lot of sense for clients.”
He says the multi-asset approach is increasingly being accepted by consultant-driven portfolios, particularly for large institutional asset pools like pension funds.
Smaller investors appear to agree and are increasingly taking notice of the growing enthusiasm for the multi-asset approach. “The retail sector has been rapid in adopting multi-assets as the core part of the portfolio,” Lill says.
Baker agrees take-up is increasing: “In the multi-asset sub-sector, flows are now following the theoretical interest and clients are slowly starting to allocate to them.”
Reshaping the sector
The popularity of these new strategies is encouraging managers to tweak existing products and investment approaches.
“There is a blurring between multi-manager and diversified funds. Also, multi-managers are building internal capabilities for new assets and diversified funds are looking externally for capacity to add new asset classes,” Baker explains.
“Consolidation in the space is also continuing as managers are seeking to build scale. It is slowing now, but it will continue, as distribution is important.”
Investment managers are also turning to different assets and vehicles.
“We are seeing improved diversification in funds, with increased use of international assets and higher yield assets, etc. Managers are looking at different assets for better returns and extra risk protection,” she explains.
According to Scott Fletcher, director of client investment strategies at Russell Investments, there are also moves to break down traditional asset classes into smaller components and consider broader opportunity sets.
“It is about splitting them into more specific exposures within asset classes. For example, bond absolute return strategies or credit type exposures. We are trying to split apart traditional asset class into components providing less correlated returns,” he explains.
Yeo agrees portfolio managers are looking for new return opportunities. “We take a medium-term position where we have a very high conviction. It is about big picture trends.”
An example is IOOF’s investment in start-up Australian equity boutique funds to capture the high early performance in these funds. “We identify new start-ups with low FUM. There is a lot of upside for clients, as we can also negotiate good fee deals,” he explains.
“It is about trying to get an edge. Multi-manager is quite a common product and this is another way to add value.”
Kellett believes these new approaches are an important change for investors. “It is about spending the cost budget more wisely and adding value for clients.”
Moving to client objectives
This shift is also coupled with a more dynamic approach to asset allocation and less focus on peer performance.
“We are seeing more moves towards clients’ objectives, rather than a strategic asset allocation approach, together with increasingly dynamic allocations,” Baker explains.
According to Lill, the new multi-asset products are about delivering on the client’s objective - not outperforming peers. “Many of the funds - like those focussing on CPI plus 5 per cent - focus on outcomes that are not easy to put into survey results, as they have very fluid asset class exposures.”
He argues this types of strategy is very attractive for advisers, as it allows them to focus the time they spend with clients on wealth planning, rather than investment performance.
“The argument has changed slightly, as in the old multi-manager world it was about the growth or balanced decision. Now it has changed to allow the manager to manage towards the target and to have a wide set of tools at their disposal. Each manager will aim to meet their objective in different ways and have a greater focus on asset allocation,” Lill explains.
To achieve client objectives, investment managers need to be freed up from the constraints of strategic asset allocation. “Asset classes go through business cycles and so dynamic asset allocation is important. This allows multi-asset funds to use ETFs, index portfolios, strategic beta and external managers. They then focus on investment risk through scenario testing.”
The multi-asset approach is definitely gaining favour in the retail market.
“This market space is slowly moving and there is interest in these products by advisers. Managers are also starting to get behind them with new tools and education - particularly the newer products,” Baker notes.
According to Lill, although the multi-asset approach has many advantages, it still has its challenges for advisers. “It leads to a much better alignment between the client and investment team’s objectives, but it will lead to a higher dispersion in returns across the peer group.”
Doing it cheaper
The current industry obsession with reducing costs is also having an impact on the multi fund sector.
“We are seeing continuous change - especially with smart beta - which is about bringing it in-house to cut costs. However, we are not seeing a subsequent drop in the headline fees,” Baker notes.
Yeo agrees the focus on cost is a major impetus for the investment strategies being implemented by many multi-funds. “MySuper has been a big focus. So you need to look for a smarter way to invest through smart beta, using something like risk factors or fundamental indexing. The regulatory issue means you need to come up with cheaper ways to do things.”
A wider range of assets are also being given the low cost treatment.
“Smart beta strategies are starting to spread from equities to fixed interest, REITs and infrastructure, so managers are starting on building out a full suite of smart beta capabilities. The implications of this are not clear as yet, as it is relatively new,” Baker says.
The focus on cost, new return opportunities and objective-based outcomes is seeing many traditional multi-manager funds transform to meet the requirements of the new environment.
“Most multi-managers are on a journey to becoming more multi-asset in their focus. The multi-manager fund hasn’t gone away, but it is no longer a single approach. In some cases, it is one of the tools you use in a multi-asset portfolio,” Lill notes. To demonstrate the strength of multi-manager strategies, he points out Ibbotson still has around $1billion out of its $4billion in FUM held within multi-manager strategies.
Fletcher agrees multi-asset funds are not replacing traditional multi-manager strategies, pointing out that in many ways they are not really a new idea and are often very like traditional diversified funds.
“You are not seeing a change in the type of product available, but in how those products are designed and constructed. Multi-asset products can be developed ranging from capital protection through to a very dynamic TAA approach. Multi-asset is a framework for the entire investment approach,” he says.
In fact, Fletcher argues some managers are over-selling the idea of multi-asset funds. “Multi-asset is an investment philosophy and approach, not a new product. You can have a conservative multi-asset fund. It is about how you construct the portfolio. You start with the outcome and work backwards.”
Enter the lifecycle fund.
Looking to the future, multi-funds are likely to continue evolving.
Another growing trend in the space - particularly in relation to superannuation assets - is a move towards taking a lifecycle approach, which sees the asset allocation shift as the investor ages.
“We are moving towards a lifecycle approach and that is consistent with better product management across lifespan,” Lill argues.
Baker agrees this is an emerging trend. “We are hearing lifecycle products are being developed and will be coming to market in the future. The introduction of MySuper products by super funds is helping along this trend.”
The growth and product requirements of the superannuation side of the investment management sector is definitely having an impact on the products being rolled out for retail investors, Kellett says. “The theme increasingly is products for the retirement phase. However, this is a difficult space, as these clients don’t want low returns or high risk. There will be a lot of attention focussed on this area by the industry.”
Helping advisers under pressure
Product developments aside, the business pressures weighing on advisers are also spurring fresh interest in multi funds.
“There has been pressure right along the value chain and advisers are realising they can save time on the investment side, which can then be spent on building their business and servicing clients,” Kellett notes.
He believes using a multi fund provides an opportunity for advisers to re-engage with the advice process and have conversations with clients that are not focussed on manager selection.
Fletcher agrees there is considerable soul-searching going on amongst advisers about how best to handle the investment part of their operation.
“In the advice business, you need to ask, 'What is the investment value proposition?’. If it is from investment skill, then it is likely the adviser will be using a core and satellite approach, possibly with a multi-asset fund as the core. But if it is a focus on strategic advice, then it is more likely they will completely outsource the investment side,” he explains.
This is where multi funds offer real advantages for advisers, as they leave them free to do what they do best, Fletcher says. “Wealth management is different to investment management. Advice is really important to knowing what the client wants and matching that to the underlying investment engine in the product.”