Asset managers, wealth advisers and private investors have all been lured by the concept of 'model portfolios'. Constructed using past performance data, model portfolios are often used as blueprints to determine a portfolio's 'ideal' asset allocation to achieve a desired risk/return profile. In theory, and in the spirit of diversification, this sounds like a fine idea, but come the credit crunch, and a freaky market where all the asset classes move as one, and the disclaimer "past performance is not an indication of future performance" takes on new meaning.
In the case of Newton, however, quantitative, model-building has never been the driving force behind the asset manager's investment decisions. Instead, fund managers such as Iain Stewart, manager of the Newton Real Return Fund, employ a thematic approach to investing, using different themes to define the portfolio structure.
"I don't believe in using the last 20 years or so of data to construct a model of what asset allocation should look like," says Mr Stewart. "The next 20 years are not going to look anything like the last, it is a different kind of world all together."
He stresses the need for flexibility when constructing a portfolio: "Our approach is to have a strategic view about how we see the world at any particular time and then asking what sort of asset allocation we should have in response to that view."
Thematic thinking
The central theme underpinning Newton's investment philosophy in the run-up to last year's credit crisis, was spot on. The 'debit/credit' theme saw Newton's fund managers steer well clear of Western banks and their highly leveraged, unsustainable business models - a strategy which paid off during 2008's financial fall-out.
Now, the themes spearheading Newton's interpretation of the world involve phrases such as 'medical technology' which focuses on the continued improvement in the medical arena, 'population dynamics' referring to the changes that come with an ageing population and 'networked world' based on the expansion of internet and broadband technologies. There are also themes built around new risks: 'Fire risks' refers to the looming risk of inflation, while the 'more government' and 'all change' themes point to a different world after the credit crisis.
"There is so much noise out there and so much focus on what’s happening now - when what is really most important for longer-term savings vehicles, is the underlying trends. Thematic investing keeps us focused on these underlying trends," explains Mr Stewart.
| IAIN STEWART CV |
|---|
Iain Stewart joined Newton in 1985 as a portfolio manager after completing his Doctorate with the Ministry of Agriculture, Fisheries and Food. In 23 years working for Newton, he has specialised in managing multi-asset and global equity mandates for pension fund clients. Mr Stewart is a senior member of Newton's Strategy Group with particular responsibility for co-ordinating the development of its global investment themes. He is also responsible for a significant portion of Newton's pooled balanced portfolios. |
Absolute target
The starting point for the Newton Real Return Fund’s investment process is its target, which is a return of Libor plus 4 per cent over rolling five-year periods. An ambitious aim, but one which Mr Stewart has managed to achieve almost consistently since the fund's launch back in April 2004.
The themes underpinning Newton's view of the world are then used to define the fund's portfolio structure. Classified as an absolute return fund, the Newton Real Return Fund, uses these themes as the building blocks behind its unconstrained, multi-asset strategy, which is focused around long-term investing.
Mr Stewart says the fund's single, flexible portfolio is made up of "a core of equity positions fitting in with the long-term thematic views combined with tactical hedging along the portfolio edges in order to take account of the greater volatility in the investment world."
The peripheral assets surrounding the fund's core holdings act as hedges for a range of eventualities, and according to Mr Stewart would make a good defence against both an inflationary or deflationary environment. These 'tactical hedges' include commodities, with exposure to gold and agriculture held via exchange-traded funds (ETFs), options, index-linked holdings and other forms of equity market hedging.
The fund is unlikely to hold illiquid, high-cost vehicles such as hedge funds and structured products which are often difficult to understand, as the aim is to keep the fund transparent. "It is a very simple, straightforward investment process, not some kind of a clever, quantitative model-based offering," says Mr Stewart.
Until credit availability and credit creation returns to the economy, Mr Stewart is sticking to defensives. "We don’t see any reason to take a bet on cyclical aspects. While the market is clearly very excited about the prospect of recovery, our long-term view is that some of those expectations are probably going to be disappointed given the number of headwinds to growth. We're very happy to be exposed to defensives such as healthcare, telecoms which offer big yields and stable business models."
Uneconomic growth
Another theme which Mr Stewart and his fellow managers at Newton are keeping an eye on, is that of 'uneconomic growth'. Mr Stewart explains that the name refers to the distortions that governments, especially in the developing world, make to growth figures. "In China they fix exchange rates, the input prices, the price caps and even the output. They also control the amount of capital that’s going into the economy."
Mr Stewart however adds that there is also a lot of 'uneconomic growth' going on in the West which is creating a lot of unintended consequences which do not necessarily give investors a true picture of what is going on in an given economy.
"In the UK everything is really distorted by the fact that we have got low interest rates and more government policy that you could shake a stick at. Consequently, we're getting some surprising things happening and we could get even more extreme things happening in financial markets. But for us the question which remains is what do we want to do for this fund’s approach - and the answer is quite simply not to lose money and latch on to some of the returns.
"We think this is a pretty good vehicle for building up a pot of money in the long run. We're trying to get equity like returns, with lower volatility and so far we have been able to do that."
