Inaugural Broker Asset Allocation Survey
Institutional asset managers and retail financial planners have been providing information on their investment allocations for years. More recently the self-managed superannuation fund (SMSF) market has been self-reporting to the Australian Taxation Office (ATO), and due to concerns about the quality of these ATO submissions there have been third party surveys into better understanding how SMSFs are invested.
As far as we are aware, however there is nothing available in the stockbroker advised space to understand how broker equivalent portfolios are positioned and how they are being implemented. We can make assumptions, but in a data driven world that is a sub optimal approach. So we have started our own survey – to not only better understand the asset allocation and implementation views of this group of investment professionals but to also share that output with the community and monitor the changes over time.
In our inaugural survey we received 50 responses, which is of sufficient size to be useful but still a small enough sample that there may be some inherent biases that will be smoothed out as our response rate grows over time. We certainly learned more about the investment objectives, preferred vehicles and asset allocation approach of this group, and will continue to share more of our own thoughts on how asset allocation can help clients within this group meet their investment goals.
Key highlights from the survey;
– Investment objectives – top three in order of preference were Generate Income, Maximise Returns (after tax, including franking credits) and Protect Capital,
– ASX listed stocks are by far the dominant investment vehicle (79%),
– Although direct equity and hybrids are the most popular ASX vehicle interestingly brokers are already significant users of professionally managed ASX listed and quoted products (LICs, Passive ETFs and Active ETFs),
– Current asset allocation is dominated by growth assets (equity and property) at 80% with another 10% allocated to Hybrids. This may solve the income and maximum return investment objectives but capital protection looks difficult with this portfolio,
– Asset allocation is relatively static, with only 14% changing asset allocation within the prior six months,
– Reflecting other equity sentiment surveys, the majority of respondents (54%) are less concerned about an equity market correction than they were three months ago.
The biggest surprise to us in this survey was the breadth of ASX quoted vehicles brokers are already using. Given the choices available across LICs, Passive ETFs and Active ETFs – and the increasing choice over time – fully diversified portfolios that are able to achieve many client objectives can be implemented using ASX quoted vehicles and many brokers are already actively invested using this approach. However, the rigidity of asset allocation (infrequent rebalancing) and the anchoring to very high growth asset weights (80%) makes us a little more uneasy. For context, most diversified growth investment portfolios will hold between 60% and 75% in growth assets with the remainder in a mixture of diversifying exposures (high yield and emerging market bonds, alternatives, private market assets, hedge funds etc) and defensive assets (investment grade bonds, government bonds and cash). That capital protection was nominated consistently as one of the top three investment objectives makes it even more puzzling as to how these portfolios can limit drawdowns should an equity market correction occur – albeit survey responses suggest fewer seem worried about that right now.
Figure 1: Investment Objectives (in order of preference)
Generate income, return maximisation and capital protection are the top three objectives brokers are trying to achieve for their clients (aren’t we all!). Capital protection is interesting when we reconcile this with asset allocation responses later in figure 4;
Figure 2: Vehicles used to Implement Objectives
As suspected, there is a huge preference for ASX quoted vehicles – although global direct stocks and managed funds do get a look in. Fortunately the market is changing so brokers do not have to change the platform through which they invest, with many of the asset classes and active investment strategies available on the exchange – and many more expected to do so over time.
Figure 3: Which vehicles on the ASX are preferred?
So what instruments on the ASX are brokers buying? Figure 3 shows the preferences (as respondents could nominate multiple vehicles this totals more than 100%). Note this measures which vehicles are considered for investment and does not capture the allocation to each.
Almost 90% of respondents are using direct equity and hybrids which is understandable, but the fact that brokers are also using third party managed investment vehicles (LICs, Passive ETFs and Active ETFs) is very interesting. That active exposure has a similar preference to passive is also interesting. This suggests that the trend towards portfolio diversification and active vehicles is well underway.
The most common reasons given for ASX quoted preference is cost, tax efficiency and direct ownership although skill and diversification benefits were also noted.
Figure 4: Current asset allocation being advised to your clients
80% of the average respondent portfolio is invested in growth assets (equity and property) and 10% hybrids – which are one of the riskier forms of fixed income. Zero allocation to global bonds, a small amount of unlisted and other can be observed. In the context of other major investor groups (institutional pension funds, retail financial planning groups) these are very aggressive portfolios.
There is of course no “correct” portfolio however, only the portfolio that is most likely to meet the specific investment objectives of the client. The only potential issue here is being able to meet the “protect capital” objective (third most important per figure 1) with so much in risk assets, so little defensive exposure (especially to interest rates) and a lack of overall diversification in the portfolio.
Figure 5: How often do you change a client’s asset allocation?
Like many investors, the Asset Allocation (AA) we see today is likely to be the AA for most of this year, as 86% of brokers change either annually or longer. The key here is that AA anchoring (even if the anchor is completely different) exists in this market also. It will be interesting in subsequent surveys to see how AA allocation data lines up with these expectations of change.
Figure 6: Are you more worried about a sharp decline in stock prices than you were three months ago?
Brokers in general appear less worried today about a sharp decline in the equity market than they were three months ago (which echoes other bull/bear sentiment based surveys) and perhaps it is this view that reconciles to the asset allocation we observed above. If advisors see less risk of equity market drawdowns than three months ago then perhaps holding a significant allocation to equity does not appear risky and therefore unlikely to fail the “capital protection” objective.
How is Schroders positioned in the Real Return Active ETF (ASX: GROW)?
Figure 7: Real Return (ASX: GROW) Portfolio
Our approach to inflation plus (or real return) investing is to choose the portfolio that has the highest probability of achieving the required return objective over the investment horizon with the least expected variability around this objective. The Fund employs an objective based asset allocation framework in which both asset market risk premium, and consequently, the asset allocation of the portfolio are constantly reviewed. The Fund will reflect those assets that in combination are most closely aligned to the delivery of the objectives. Our objectives are both return – CPI +5% per annum over rolling three year periods before fees and risk – volatility of between 3 - 7% per annum and minimising the incidence and magnitude of drawdowns (capital protection).
Currently the GROW portfolio is very defensively positioned, reflective of poor return prospects following years of strong market performance. Our three year expected nominal return forecasts at the end of February estimate total returns of circa 3-5% per annum from equities (some higher – EM, Australia, some lower – US, A-REITs), 3-4% per annum from credit (lower end for IG, higher end for HY and EM) and 2% per annum from Australian Government Bonds. These might not be inspiring returns but we believe they are realistic. History suggests that narrow risk premia as indicated by today’s low returns on risk assets relative to bonds and cash have a way of self-correcting – and this process of premia restoration brings with it capital losses along the way. Relative to rising inflation expectations the risk premia in bonds also remains too narrow in our view.
We have no way of knowing with any confidence whether this adjustment will happen next month, next year or sometime in 2019 and the performance of already expensive US equities from 1997 – 2000 serves as a reminder of how long valuation can take a back seat to other market factors. In order to meet our investment objectives around minimising capital drawdowns we cannot ignore the structural valuation risk embedded in the current market, hence our defensive portfolio positioning.
Although expected returns are low and we are defensively positioned, we continue to seek diversification in all parts of the portfolio. We hold slightly more Australian equity than global due to better expected returns from the local market which includes franking credit considerations. We also have exposure to domestic hybrids, global high yield and emerging market bonds in the portfolio to diversify our growth risk away from pure equity. On the defensive side we are invested in both local and global investment grade corporate bonds, as well as mortgages and government issued debt alongside a significant cash holding.
What is less obvious are the exposures embedded in the portfolio beyond these capital allocations. We hold significant foreign currency positions (by holding foreign assets partially hedged) to diversify away from an expensive Australian dollar and although we have a range of fixed income investments we target portfolio duration at 0.7 of a year to protect the portfolio against the risk of rising interest rates. We also have some equity sector and inflation breakeven positions – captured in the absolute return strategies – to benefit from higher inflation and some S&P 500 put options to take advantage of low volatility and protect against low probability but high impact market events.
Opinions, estimates and projections in this article constitute the current judgement of the author as of the date of this article. They do not necessarily reflect the opinions of Schroder Investment Management Australia Limited, ABN 22 000 443 274, AFS Licence 226473 ("Schroders") or any member of the Schroders Group and are subject to change without notice. In preparing this document, we have relied upon and assumed, without independent verification, the accuracy and completeness of all information available from public sources or which was otherwise reviewed by us. Schroders does not give any warranty as to the accuracy, reliability or completeness of information which is contained in this article. Except insofar as liability under any statute cannot be excluded, Schroders and its directors, employees, consultants or any company in the Schroders Group do not accept any liability (whether arising in contract, in tort or negligence or otherwise) for any error or omission in this article or for any resulting loss or damage (whether direct, indirect, consequential or otherwise) suffered by the recipient of this article or any other person. This document does not contain, and should not be relied on as containing any investment, accounting, legal or tax advice. Schroders may record and monitor telephone calls for security, training and compliance purposes.