With just a couple of months until we wind down for Christmas, I’ve found myself wondering which funds might end the year on a high. For now, it’s looking likely that some of the more niche portfolios may have won the day.
I’m thinking specifically about global equity funds. As of 18 October, it wasn’t an especially well-known name from the Investment Association and Association of Investment Companies’ Global sectors that had made the best sterling total returns so far this year: it was a sector fund, Schroder ISF Global Energy (LU1046233364).
Even in a topsy turvy year for investment styles, this does make sense. We’ve had a healthy value rally and recent developments in the energy sector to turbocharge returns. The fund in second place in the performance table, incidentally, was a global energy tracker. Holding niche funds like these has paid off richly for investors so far this year.
But what’s really striking is the longer track record of the Schroders fund. If it has topped the performance table so far in 2021, most other years couldn’t look more different. FE figures show that, as judged by sterling total returns, it sat at the very bottom of the same performance table in 2020, 2019, 2017, 2015 and 2014. It was pretty close to the bottom in other years going back to 2011, too – bar its very strong returns in 2016, another year remembered for a hefty outperformance by cyclical shares.
So is this a terrible indictment of one fund? Not really. The Schroders portfolio has tended to do what you might expect of a concentrated active fund, delivering more exaggerated returns (both positive and negative) versus a broad energy index, which itself has had a volatile decade. You can see similar records with some of the other cyclical sector funds, in areas such as financials.
Instead, these figures serve as a powerful reminder of just how volatile sector funds can sometimes be. They will reward you extremely well if you time a trade correctly, and can be a more direct play on market rotations than the likes of factor exchange-traded funds (ETFs) or actively managed value portfolios. But they might result in more than a few sleepless nights for the buy and hold investor.
If you are interested in big wins like this, what’s the answer? Limiting your position size, and using the likes of sector funds as a satellite holding, might be one solution. Investors might even want to use spare “play” money for more volatile holdings such as these, while keeping the bulk of their savings with a diversified portfolio. Similarly, it might be wise to use them when you have very strong conviction in a certain development, or perhaps not at all.
Broader funds can participate in gains of specific sectors. When it comes to energy, some UK equity income funds have an allocation, especially value-oriented names. Take the best-performing UK equity income fund in 2021 so far: Merchants Trust (MRCH) recently had a decent level of exposure to financials, industrials and energy. It has lagged Schroder ISF Global Energy in 2021 and 2016, but fared much better more generally.
Perhaps this illustrates a broader investment truth. The more niche a strategy, the greater level of risk/reward (and volatility) you could be in for.
