Improving fund ratings demonstrate growing strength of asset allocation sector

The growing market for sophisticated multi-manager products has led to a boost in the quality of funds in the asset allocation sector, says Standard & Poor's Fund Services in its latest report on the sector on funds-sp.com.

"Reviewing the sector in 2007, we have observed a further increase in the average quality of fund management" said Glenn Meyer, S&P's lead analyst on the asset allocation sectors. "This further validates our observations in last year's review, where we noted the growing commitment of fund management companies to the sector."

Product innovation seems to be running at an ever-faster pace. Many management groups have taken advantage of the implementation of the Ucits III directive to introduce new fund ranges that incorporate use of derivatives and alternative asset classes, alongside existing traditional asset allocation funds. "Product innovation in the asset allocation sectors is likely to continue at a fairly high rate for the foreseeable future," said Meyer. "We firmly expect more funds to be launched under both Ucits III and NURS regulations. This will make risk control by fund managers an important area for buyers of funds to consider."

The review covers 79 funds, of which six are AAA rated, 40 AA rated, 32 A rated and just one Not Rated. Seventeen funds saw their ratings raised, all from A to AA.

In 2006 market conditions tended to favour good asset allocation and country calls. But selectively both multi-managers and managers with a bias to bottom-up security selection did well as long as effective risk controls were in place and confidence was maintained through the mid-year correction.

Funds worthy of mention include Schroder Managed Balanced fund, a fettered fund-of-funds run by Andrew Yeadon, which did well from good active asset allocation and benefited from well-timed reduction of exposure to Japan and emerging markets (as a risk reduction measure). Growing confidence in the ability of the team and the consistently good performance led to an upgrade to AA status. The F&C Multi-Manager range of funds, managed by Richard Philbin, has also risen in our estimation and were all upgraded to AA.

Among funds investing in individual stocks both the Newton Bridge and Balanced Bridge funds have impressed with good use of the in-house private client model to deliver consistent outperformance. Both were upgraded to AA. Within continental Europe consistent strong outperformance of the quantitatively managed INVESCO Global Dynamick Fonds run by Michael Fraikin led to an upgrade to AA, and the very strong returns generated year by year by the Adig Best in One Europe Balanced Fund, managed by Thomas Romig as an unfettered fund-of-funds, also led to an upgrade to AA.

Fidelity had a bad year, however, seeing six downgrades from AA to A. These were all based on poor performance and significant turnover among the managers of underlying funds.

Looking forward, confidence among managers generally remains high, despite the length of the bull market in equities and signs of a slowdown in global economic growth. Equity valuations remain reasonable because of good levels of corporate earnings growth, but a significant minority of managers are offsetting stock selection in equities with increased allocations to cash. This keeps some powder dry for stock-specific opportunities but is primarily driven by an unwillingness to allocate more to bonds in the face of expected interest rate rises.