Ninety One Diversified Income Fund, managed by John Stopford and Jason Borbora-Sheen, aims to produce a sustainably high income while providing some modest capital growth. The managers blend what they see as the most attractive opportunities in equities, high yield bonds, emerging market debt and, at times, listed property investments and infrastructure.
They seek to reduce risk by ensuring there is a diverse range of assets and by taking measures to protect against falling markets. In contrast with a typical multi-asset fund which might rely on asset allocation and decision making based on the macro-economic picture to generate performance, the managers prioritise individual stock selection. They look for assets with an attractive yield and characteristics which suggest their income streams are sustainable and that they offer good value.
The resultant portfolio provides an ‘engine’ of long term returns from shares and bonds with resilient income yields and the potential for capital stability or appreciation. The managers ensure diversification of the portfolio by owning a mix based on their behaviours, believing that traditional diversification ideas that rely on whether an asset is a bond or an equity can prove naïve. Notably, correlation between fixed income and equities is variable and has sometimes been positive – in other words they can move up and down in tandem, thus not really providing any diversification benefits.
Historically, the fund has experienced less than half the volatility of UK equities and has strong a track record of minimising losses during episodes of market stress, although like any investment it can fall as well as rise. The managers employ ‘hedge’ the portfolio when they believe the level of risk in the market appears to be dangerous. This tends to involve derivatives such as futures or options, which reduces potential upside when deployed but has the important effect of dampening the portfolio’s volatility and protecting against capital loss.
Having started 2020 with exposure to equities at around 20%, the managers reduced this to below 10% by mid-March, before the investor fears over the coronavirus took hold in earnest. This proved vital in helping preserve the capital value of the fund as common diversifiers such as corporate bonds and infrastructure investment trusts suffered falls too.
As markets embarked on their recovery through the summer the managers upped the risk in the portfolio to exploit areas of opportunity that had opened up. High quality corporate bonds had displayed almost equity-like levels of volatility as investors tried to liquidate all kinds of assets to raise cash, and the managers were quick to appreciate that investors were motivated by panic rather than a rational assessment of the ongoing viability of many businesses.
To capitalise, as well as adding to favoured bond positions the managers reduced cash, increased equity and high yield bond exposure and reduced positions in lower risk but low yielding government debt. Equities now represent nearly 20% portfolio, after accounting for hedging, having been as low as 7% in mid-March 2020 and as high as 30% at the peak in 2016.
While the managers believe the valuations and income offered by dividend paying companies are still attractive, they believe they are somewhat predicated on a strong economic recovery and vulnerable to bad news given the current level of optimism among investors. They are therefore taking a balanced rather than aggressive approach to equity exposure.
The fund retains a significant weighting – just under 20% – to emerging market debt. This is generally a higher risk component, but much of it is currency hedged and short dated which removes a significant amount of the interest rate risk. Despite these measures to curb risk there is still a useful yield on offer, in contrast to developed world government debt where yields are close to zero and, in extreme cases, below.
The managers expect some inflation and across the fund the ‘duration’ or sensitivity to inflation is low, especially compared to other income strategies such as pure bond funds. Therefore, it should be relatively resilient in inflationary scenario. At present the fund yields 3.9%, variable not guaranteed.
This fund’s desire to balance returns with controlling volatility offers the potential to capture market upside but cap the downside in times of stress. The combination of strong returns coupled with relatively low volatility under the current managers has been impressive to date, though past performance is not an indication of future returns.
We continue to believe it is a well-managed and uncomplicated income fund overseen by a committed team. It is worth considering as a core component of an income portfolio, or indeed a more stable holding for a growth portfolio when buying accumulation units that automatically reinvest the income. It remains part of our Direct Investment Service Preferred List our curated list of investments for new investment in their respective sectors.
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