The belief that markets eventually move back towards the average underpins Fowler Drew’s asset allocation calls.
‘Using the last 150 years plus of data, markets have persistently reverted to a mean level. This trend is our friend: we use it to determine what is under or overvalued,’ said Chris Ling, Fowler Drew’s head of investment management.
This helps explain why the investment team thinks the Japanese market has even further to go. ‘Japan had a really good 2017. But it’s some way below its trend after a long period of underperformance. We hope Japan will continue its reversion to the mean,’ said Ling.
For the same reason, the team increased exposure to UK equities, describing the UK market as a ‘laggard’ compared with other markets. It also spotted value in emerging markets and initiated an allocation last year.
While Ling thinks equities do not look cheap, the team remains overweight as it believes risk-free rates, indicated by index-linked gilts, look expensive. ‘There’s a large opportunity cost to being out of the markets,’ Ling said.
Time is ticking
Fowler Drew invests primarily in exchange-traded funds (ETFs) and index funds. The firm also buys index-linked gilts directly to lower costs for clients. Ling says they will hold active funds if the client insists, or if legacy fund positions are ‘tax-locked’. The firm’s quantitative investment process depends completely on the financial planning process.
‘Each client undergoes a cashflow planning process that lays the foundation for how we invest,’ he said. Longer term cashflows are invested in global equities, while shorter term cashflows are held in cash and index-linked gilts. ‘Time is a key risk factor,’ said Ling.
The client’s attitude to risk is teased out after they are shown a range of outcomes that can be achieved by taking different amounts of risk. ‘It’s about showing them the pay offs to taking risk with their investments. Our quantitative investment process looks at long market data histories, which gives a sense of what to expect going forward,’ Ling added.
Asset allocation is reviewed each month. Typically, the team reacts immediately to big market moves. ‘As contrarian investors, we may well increase exposure to equities if the markets suffer a sharp drop,’ Ling said.
He pointed out equities had driven performance over the past few years. Perhaps surprisingly, gilts also made a positive contribution.
Data to 31 December 2017. Fowler Drew only offers bespoke portfolios. The conservative portfolio is based on one client family; the balanced portfolio splices together two client portfolios; and the aggressive is based on a composite of client accounts. *Other includes alternative investment strategies/undisclosed/others. **Excludes platform charges and adviser fees. Includes charges on constituent funds.