“Cash is good protection in the short term, while waiting for better value to appear in the bond market,” said Do, who manages the Baring Asia Balanced Fund, a multi-asset product that is in the top quartile among peers in terms of Alpha, according to FE data.
The fund now holds 20% in US dollar cash.
“We’re holding more cash than we usually do. We want to see what happens after the Fed hikes rates and maybe some defaults will happen in emerging market currencies or corporate defaults in Brazil, Russia, or some parts of Asia.”
Equity exposure remains dominant, but has decreased from 82% in January to around 70% today, Do said.
In the last few months, the fund cut US equities from very overweight to very underweight. At the same time, Europe and Japan equities went from mildly overweight to strongly overweight, he said.
"Do you take exposure to value? It’s very tempting because buying cheap is nice. But value investing hasn’t worked well for the last five years"
“But we hedged the currency because the US dollar is likely to rise due to a stronger economy.”
Some portfolio managers only hedge the overweight relative to their benchmark, Do said. If they are bearish on the yen, for example, they will hedge only the overweight portion.
“We don’t hedge the overweight, we hedge the whole exposure. We don’t want the currency to take away all the gains in the equity market. And as a result of that, the fund did extremely well.”
Five year performance vs mixed asset fund index
In terms of Alpha, the Baring fund was in the top quartile among multi-asset funds for sale in Asia, according to FE data. Over the trailing five years, the fund’s Alpha was 2.12, ranking number 21 out of 105 peer funds.
The fund sold some mainland stocks during the bull market, Do said. Now China gets an underweight, with slight exposure to A-shares (~2%).
Bond exposure has been slashed. For the last ten years, the fund held on average 40% in bonds. Today it is 8%, and Do has little interest in conventional bonds.
Index-linked bonds in the US and short-dated treasuries are preferred. The top allocation is in US treasury bills, which make up 5% of the fund.
“US treasury bonds are like high yield bonds compared to gilts or Japanese bonds.”
Do defines risk as potential negative events not priced in the market. One risk that could spark volatility is investor complacency about the number of US interest rate hikes for the rest of the year.
“Investors think only about 30bp to year’s end. That means a 50% chance of a September rate hike and 100% chance of a December hike. We think that’s too complacent.”
Another concern is the fall of oil prices. Generally, low oil prices are interpreted as a positive, because then consumers and businesses have more money to spend.
But energy companies could see defaults. The high yield bond market includes a lot of shale oil producers and with low oil prices the likelihood of bankruptcies increases. “That could cause a massive sell off in all high yield bonds. Some banks may lose money if loans go bad.”
Do has been with Barings since 1996. He manages all multi asset portfolios for clients located in Asia and has been steering the Asia Balanced Fund since 2006.
The fund’s Alpha comes from asset allocation, which includes asset class, currency hedging, geography, and individual stock selection, he said.
“The last few years Alpha has come more from asset allocation than stock selection. But a 5-10 year attribution analysis shows it comes from both.”
Investment decisions begin with a ten-year return forecast for all the major asset classes. Although ten years seems like a look into a crystal ball, Baring claims that their ten-year forecast in 2004 turned out to be pretty much on target.
The decade-long forecast determines the overall plan.
“It’s like flying plane from Hong Kong to New York. You can be on autopilot if everything goes well.”
But valuations and sentiment change frequently, and market-moving events such as those surrounding China, Greece and oil prices are always emerging.
Therefore, each month the team meets to reassess the portfolio and determines the ratio of tactical to long-term optimal allocation. A risk overlay is put on the portfolio, controlled by implied volatility derived from tactical asset allocation.
“The process helps us get involved in equity markets when our analysis tells us to buy. When that happens, we move strongly. The reverse happens when markets are very bullish. Our indicators tend to flash warning signs.”
Do’s role is bigger picture. “I pick markets and themes. I don’t pick every stock. I rely on equity specialists. It’s up to the team to implement and do market allocation on my behalf.”
Currently he has a strong preference for long-term growth themes such as healthcare, the internet, environmental control, robotics and consumer discretionary.
Value areas include emerging markets, where valuations are cheap, energy or natural resource equities, which have tumbled, or cheap currencies.
“Do you take exposure to value? It’s very tempting because buying cheap is nice. But value investing hasn’t worked well for the last five years.
If you bought cheap a year ago, you lost a lot of money. Three years ago, you lost even more. Value assets can only become a great buy when the key world economies recover in unison, and China hasn’t recovered.”