The Asset Allocators: Is America still the land of investment opportunity?

This is the first in our new, quarterly asset allocation article, where every three months we ask a panel of experts from the wealth and asset management industry how their portfolios are positioned and where they are seeing buying opportunities for attractive long-term investments.

This month’s panel is: Ben Conway, chief investment officer at Hawksmoor Investment Management, Peter Walls, portfolio manager at Unicorn Asset Management, and Simon Doherty, head of managed portfolio services at Quilter Cheviot.

Ask Google why asset allocation is important for the success of your investment portfolio and you’ll get plenty of results extolling the virtues of carefully curating your plans before you get to the nitty gritty of actually selecting which funds (or investment trusts, of course) to invest in.

Some will extol the virtues of a simple mix of equities and bonds, while others will variously suggest adding exposure to alternative assets such as gold, real estate, hedge funds, private equity or infrastructure.

Then there are those that believe that selecting the best-quality funds or fund managers should be the logical starting point. This way, you have exposure to the best investors you can access who will do your asset allocation for you.

Certainly, you can make the case for both – and setting your strategic (or long-term) asset allocation is an inexact art; it’s certainly not a science. You might be surprised to learn that the best performing asset class in the first quarter-century of this millennium has not been US equities, it’s been gold.

In fact, US equities have had their second-worst quarter century, when accounting for inflation, since 1800, according to Deutsche Bank’s Long Term Asset Return Study. Since 2000, the real return on American stocks was 4.9% a year. Gold has gained 6.8%.

This, of course can be explained by the starting point used by Credit Suisse, which was just months before the TMT bubble burst. US shares were sent plunging and wealth was destroyed on a scale rarely seen before and not seen since.

It does prove the point of Ben Conway, who believes that the best predictor of returns is valuation. “We reject the whole notion of strategic and tactical asset allocation,” Conway said. “We start from the premise that there is no accurate indicator that you can look at that’s going to tell you where the best performing markets are going to be. The best indicator is the price you pay and the longer your time horizon, the truer that statement.”

What are valuations telling us?

There is no shortage of opinions on how different financial assets and markets are going to perform over the next decade or so and we’ll assume for the purposes of this article that we’re focused on long-term gains, rather than trying to predict short-term market gyrations.

In July, Vanguard said that it saw most markets as either being fairly valued (European stocks and bonds) or stretched (US and, perhaps surprisingly, UK stocks). The real standout from a cheapness standpoint were emerging market shares, which were undervalued.

Vanguard sees UK shares as returning more than non-UK shares. It forecasts a return of between 5% and 7% a year over the next decade for UK shares in sterling terms, with global ex-UK returns forecast to be 4.4% to 6.4%.

US shares provoke the biggest dispersion from some of the world’s largest asset management houses when it comes to expected 10-year returns, with Goldman Sachs seeing a return of just 3% a year in US dollar terms. For UK-based investors, JPMorgan Asset Management sees US large-caps returning 5.9% a year, BlackRock 5.2% and Amundi Investment Solutions 4%.

You can see a selection of these expected returns in the chart below.

Is the US a good bet?

Again, all three of our contributors take differing approaches to their exposure towards American shares. Simon Doherty said that his firm’s global growth portfolio was neutrally weighted against its PIMFA benchmark, at around 67% of the portfolio.

Doherty’s portfolios get their US exposure by investing in 30 to 40 direct equities, with a generally neutral view of the magnificent seven mega-cap tech stocks. The firm has been overweight Microsoft, Meta and Amazon, underweight Alphabet and Apple and has not owned Tesla. Nvidia wasn’t owned until early 2023, when the artificial intelligence rally started, alongside fellow chipmakers TSMC, Micron and AMD.

Within the balanced fund that Doherty runs, which has 62% within equities, the US accounts for c. 30%, with a home bias towards the UK, which comes in at c. 17%.

Peter Walls remains worried about those investors with large positions to market-cap weighted global portfolios, where the US, and specifically the 10 largest American firms, dominate. “I think it’s dangerous, I think it’s foolhardy and I think it will cost people money,” said Walls.

That said, Walls’ underlying exposure to the US is broadly two-thirds, but looks very different to global markets’ US exposure. The bulk of his US exposure comes through the listed private equity funds he owns, some of his more global holdings such as F&C Investment Trust (FCIT) and Monks (MNKS), as well as Bill Ackman’s Pershing Square Holdings (PSH).  

Conway’s valuation-led approach takes his funds very much away from US equities. In fact, the Hawksmoor Global Opportunities fund, the firm’s highest-risk offering, has just 13% in the US, with almost half of that in VT De Lisle America, a small-cap value fund. The rest is made up of sector-specific funds, such as BlueBox Global Technology, which invest in the US.

Home bias

As valuation is a “slow-moving beast”, Conway isn’t seeing huge amounts of new opportunities popping up. The one area Hawksmoor has been more active in is investment trusts. Historically, the firm has used trusts as a way of gaining access to less liquid asset classes they couldn’t using other vehicles.

More recently, they’ve been preferring investment trusts to open-ended funds within more mainstream equities, because of the historically wide discounts seen on trusts investing in liquid, daily-dealing assets.

The UK is an area Conway has been banging the drum about in particular over recent years, and his funds have been adding to trusts such as Aberforth Smaller Companies (ASL) and Mercantile (MRC). The hope is that at some point the share prices of UK companies will start rising because there is more demand than supply, rather than because firms are being taken over by opportunistic competitors or private equity firms.

Walls has held ASL since 2019 and continues to be enthused by the prospects for UK value, especially if interest rates fail to come down as far and fast as some have been expecting. Meanwhile, earlier this year he added a holding in Chrysalis (CHRY), which saw news that its holding Klarna would file for an IPO in the US.

Where are the opportunities?

Doherty said that while his home bias had been dramatically reduced over the year as the UK’s importance to global markets has waned, Quilter Cheviot was not turning its back on the UK as a stock market. The firm has been a beneficiary of takeover bids, owning the likes of Darktrace, DS Smith and Anglo American (which rejected an approach earlier this year).

Still, while M&A activity has been a tailwind, Doherty remains sceptical about whether other catalysts are out there. “You can make the valuation argument for the UK, but what is the obvious catalyst for that to be unlocked? We haven’t really seen wholesale reappraisals from asset allocators globally in terms of their UK allocation.”

One area Doherty remains overweight is Japan, where he doesn’t expect the recent political developments to derail the stock market rally that’s been ongoing for a while now. One new holding on this front has been Comgest Growth Japan, a Japanese quality growth fund that has been out of favour so underperformed the market.

Outside of equities, his funds are underweight alternatives, but they have been “chipping away at ideas in the closed-end space where you’re seeing some attractive discounts on real assets”. Here, Doherty’s funds own The Renewables Infrastructure Group (TRIG), Sequoia Economic Infrastructure (SEQI) and Care REIT (CRT).

Walls has become positive on biotechnology, with big discounts and the sense that “we’re going to see some great strides from the biotech industry over the next five to 10 years. It’s going to be very exciting I’m sure”. He’s already had success buying RTW Biotech (RTW) a year ago and has been running the rule over Syncona (SYNC), but has yet to find the catalyst.

Overall, both Conway and Walls are bullish about prospects for the investment trust space in particular, with improving sentiment and the resolution of the cost disclosure issue providing potential tailwinds. “My portfolio’s look-through discount is about 18%. In time, I think that can go back to 8% and the sector discount can get back to single digits,” Walls said.

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