Over the past six months, by far the majority of funds in the ASISA South Africa multi-asset high equity category have delivered a negative return. The worst performer is down more than 20%.
Yet, remarkably, the top performing fund in the category, the Gryphon Prudential fund, is up 17.8% according to figures from Morningstar. This fund is also the top-performer over one year (24.1%), three years (13.2% annualised) and five years (11.1% annualised).
In addition, the Gryphon Prudential fund experienced no drawdown between the start of February and the end of March. It was up 5.6% over theses two months, when the average return of local multi-asset high equity funds was -14.1%.
Perhaps most notable of all, is that the 12-month period to the end of April represented the fund’s highest one-year return since inception. It gained 18.5% over this time, while the category average was -4.4%.
Against the tide
The graph below illustrates just how much the three year performance of the Gryphon Prudential has diverged from the category average. The most eye-catching period is from the start of March this year.
It should be self-evident that this performance is not the result of stock-picking. The only way to have delivered this kind of return over the past two months is through dynamic asset allocation. And, in fact, Gryphon relies entirely on indexation to do this.
‘We believe that in developed markets and efficient markets – and a market like South Africa is pretty efficient – underlying stock selection is not going to add much value to you,’ said co-portfolio manager of the fund, Citywire + rated Reuben Beelders. ‘But you can add substantial value by asset allocation.’
It was also not through any great feat of timing that Gryphon managed to avoid the market crash. As the graph below shows, the fund has been out of equities for more than 18 months.
According to Beelders, the portfolio managers watch a number of indicators, such as the earnings cycle, commodity prices and the bond yield curve to guide asset allocation.
‘Generally, once real earnings start to go negative we believe its time to exit equities and look at other risk-adjusted investments,’ said Beelders. ‘We made that call at the end of August 2018. At that point cash was giving us 7% and we felt that for equities to give us 7% was going to be quite a stretch.’
The fund therefore moved around three-quarters of its portfolio into cash, which it held until the recent market sell-off.
‘Many people would consider that to be aggressive, but cash allows you the optionality of looking at the other asset classes that are offering value and to purchase those instead when the opportunity comes,’ said Beelders.
This is exactly what the portfolio managers did in March by shifting heavily into local bonds.
‘There was a blow-out in fixed income markets in March, but normality returned to the market fairly quickly,’ said Beelders. ‘Those who were bold enough to buy have made some money.’
Making the calls
He added that this is a good example of the opportunities that this strategy can take advantage of.
‘As an asset allocator, I can buy a range of assets – cash, bonds, equities, gold, foreign currency – and there is probably a very good chance that one of them is undervalued at a point in time,’ said Beelders. ‘All those assets are also well traded.’
Importantly, Gryphon does not try to time what Beelders calls ‘intermediate cycles’ – the market spikes or corrections between major events.
‘One battles to call the intermediate cycles’ he said. ‘We would call a drawdown of 15% an intermediate cycle. We tend to ride through those. But when it comes to a primary cycle like the great financial crisis in 2008, or the current cycle, we believe at those points you want to exit equities and preserve your clients’ wealth.’
The other key aspect of this strategy is identifying when to get back in.
‘The critical thing about asset allocation, and what people sometimes forget, is that it is two decisions: a sell and a buy,’ said Beelders. ‘You have to get both decisions right for the asset allocation move to actually add value. That’s one of the reasons why the intermediate cycles are so difficult to call.’
Primary cycles however provide greater clarity through the signals that Gryphon watches.
‘Undoubtedly there will be a time when equities will offer value again and we will move back in,’ said Beelders. ‘But we don’t believe that’s now.’
The two imposters
When the Gryphon portfolio managers do believe the time is appropriate, they will have the advantage of gaining that exposure through index products rather than individual securities. That allows entire asset classes to be bought or sold easily.
It is also a strategy that can be executed at low cost. The Gryphon Prudential fund shows a Total Investment Charge (TIC) of just 0.58%.
‘We believe that cost is one of the greatest impediments to future investment returns,’ said Beelders. ‘The compounding effect of cost on investment returns is dramatic.
‘We believe firmly that costs are an enemy of investment returns in the same way that we believe emotions are an enemy of investment returns.
Patrick Cairns is South Africa Editor at Citywire, which provides insight and information for professional investors globally.
This article was first published on Citywire South Africa here, and republished with permission.