Do you use beta products in your investment process?
Yes, and for a number of reasons. One might be for tactical positioning, so we’d like to keep short-term liquidity on our side; liquidity is an important function.
Some ETFs cover areas where you might want to take specific sector positioning, where there are no active funds covering this.
It could also be an area of the market where active managers find it hard to beat the market, such as the US, or certain asset classes like agriculture. Take the Market Vectors Global Agribusiness ETF, for example – I haven’t seen active funds beat that benchmark. That could be particular to its construction.
We could use ETFs due to the low expense ratio, although this wouldn’t drive the decision, but it would be helpful. We also use them if we don’t want manager risk. Equally, you can access an area of the market which you can’t buy in an active wrapper, such as corn, cocoa or wheat.
We also use them for efficient hedging structures.
How much of your portfolio is in beta products?
We hold 20% to 30% in ETFs. We have the US high yield ETF, an iShares product that tracks a capped index.
Until recently we held Gold Bugs, an RBS ETF, which we sold out of for tactical reasons. We bought it at £100 around a month ago and it was then trading at £133 so we took profit in the short term, as gold has rallied. And gold has just got very over-bought.
We had a SPDR US financials ETF and we have a small position in coffee. We also hold Nasdaq futures and futures on the Dax.
Futures we use because they are even more liquid and are very cheap to trade.
Do you use ETFs mainly as a buy and hold strategy or for trading?
We can trade in and out of ETFs – that’s the advantage of them, they are cheap and efficient. So we use them for both buy and hold purposes and trading. With US high yield, there are a few managers who add value, but they charge a fee for it, and we just wanted to make sure we got that exposure. We also didn’t want manager risk on this asset class.
Do you ever use structured products?
I’ve used structured products once in my career. I find a lot of them opaque, there needs to be a lot of due diligence to know the likely pay-off and risks. If there is a liquidity risk, what sort of cost might be embedded in that?
There is a mix of active and passive in our fund. There are some managers who add a vast amount of value over cycles; some manage five or six years of outperformance, some manage even longer periods.
What active funds do you hold at the moment?
We have Cazenove UK Smaller Companies, Ardevora UK Income, Bill Miller’s US OpportunitiesPolar Cap Technology investment trust, Prusik Asian Equity Income, CQS Diversified, Blue Crest All Blue, Blue Bay Emerging Market Absolute Return, among others.
If you think they’re going to add significant value, we’ll happily buy active funds.
But for Germany, for example, there are some active funds, Dax ETFs or futures. If we want liquidity we might just as well buy the futures.
Whereas with Bill Miller in the US, he is cyclically oriented and holds home-building stocks, mortgage providers, airlines, and if he has a good year, he can outperform by a big margin.
Do you use leveraged or inverse ETFs, or do you invest in structured products?
We prefer physical replication, so you don’t have to worry about the swap and credit rating.
There are concerns with securities lending. We are certainly worried about it, it’s a bit opaque to the end user sometimes, even though they [the issuer] declare it. If there was systemic shock, what could that result in?