Beating the average fund in the Balanced Managed sector is seen by many managers as less difficult than outperfoming in UK Equity Income or Corporate Bonds
The more competitive the sector, the harder it is to consistently outperform, something that cannot be said of the Balanced Managed peer group.
While it might be going a little far to say beating the average Balanced Managed fund year in year out is easy because the average Balanced Managed portfolio is badly run, it is not a peer group that generates the same interest among fund groups and investors as UK Equity Income or Corporate Bonds.
The funds that most consistently outperform the average investment in the 69-strong Balanced Managed sector regard being in the top half of the performance table as the least they can do for their clients.
When asked whether beating the average fund is easy, Toby Ricketts, investment director of Margetts Select Strategy, which has been top quartile for four of the past five years, says: "The average Balanced Managed fund is not hard to beat. We would regard that as the minimum."
Ricketts took control of the portfolio and introduced a new investment process four years ago. Since then, the only year in which Select Strategy has underperformed is the 12 months to October 2001, when it was bottom quartile, losing 29.8% of its value (see table below).
In the next three years, top-quartile returns of -6.74%, 19.19% and 9.24% respectively were insufficient for Select Strategy to keep pace with the four other funds. These funds: Invesco Perpetual World Income, Scottish Friendly Managed Growth, New Star Fund of Funds Portfolio and MW Joint Investors, returned 15.48%, 13.87%, 23.35% and 27.96% respectively. Each of these produced top-quartile performance in all but one of the past five years. Over the same timeframe, Select Strategy returned 2.89%.
The Balanced Managed sector is dominated, in terms of assets under management, by the investment arms of life companies, which are slow to change their asset allocation. Of the funds that only achieved top-quartile performance in one of the past five years, nine are managed by life companies.
These funds include some of the worst performers over the past five years. Aegon Balanced Portfolio, for example, has lost 19.11% of its value over the past five years, Lincoln Managed has lost 12.98% and Old Mutual Select Managed some 12.52%.
Funds in the Balanced Managed sector can hold up to 85% of their assets in equities under the IMA's rules. The average Balanced Managed portfolio, however, is far less aggressively invested in equities.
Typically, funds have around 50% exposure to UK equities. The funds that can boast the greatest outperformances tend to take strong positions in different geographical markets.
While Margetts has 50% of its assets invested in UK equities, the fund has a much lower weighting in US equities than its peers, at just 3% compared to the sector average of 6.5%.
Being a small investment house, Margetts has adopted a house view on global economic trends. Its team meets every Tuesday to decide what weighting it should give to the different sectors. At the same meeting, performance numbers and holdings for the funds it buys are analysed over one, four and eight weeks.
"That system has allowed us to spot the funds that are going wrong," Ricketts says.
While Margetts concentrates on avoiding individual investments that will underperform, New Star focuses on exposing itself to markets or themes that are likely to outperform.
Craig Heron, who helps manage the New Star Fund of Funds Portfolio, another vehicle that is top quartile over four of the past five years, confirms: "What we do with our fund of funds is try and ensure we have exposure to risk factors that should reward in the prevailing market conditions."
New Star has no in-house view of asset allocation. Its fund of funds team, including Heron, assesses the predictions of economists from around the globe before making its asset allocation decisions.
Heron says: "We will tilt the portfolio round about the sector average. We will make calls on an asset allocation level but we ensure we are not using all our risk budget."
Of the five funds that were top quartile in four of the past five years, three are fund of funds, one fettered and two unfettered. Individual managers can struggle to outperform their peers every year but funds of funds are perhaps freer to switch between the different asset classes to gain an advantage.