Bridging the gap

Investment company managers are an optimistic bunch if the AIC’s research is anything to go by: almost two-thirds expect to see the FTSE 100 Index deliver a positive return over the year ahead according to an end-of-year poll conducted by the organisation, with the largest proportion of managers tipping Europe and emerging markets as the areas most likely to deliver the best equity returns in 2018.

There are certainly some good reasons for these upbeat assessments: global growth has been stronger than expected and the economic backdrop is benign, with central banks only moving away from very low interest rates with the utmost caution. Equally, however, there is no shortage of potential risk – from geo-political tensions that range from conflict on the Korean peninsula to the UK’s Brexit travails, to question marks over valuations in many markets, and particularly in the US.

This mixed picture explains why there is little consensus across firms outside of the investment company sector about the year ahead. As I have mentioned in a previous column, one recent snapshot of predictions from 27 banks, fund managers and stockbrokers, found estimates for end-2018 values for the FTSE 100 index that went from 6,500 to 8,600; that’s a range covering significant losses and strong gains.

Where does this uncertainty leave financial advisers and their clients? If investment company managers’ optimism is well-founded – and the AIC’s poll of FTSE 100 forecasts a year ago proved remarkably accurate – eschewing equities could carry a hefty opportunity cost. Equally, many advisers will be unnerved by the warnings of those analysts who are more inclined to focus on downside risk.

The good news is that the investment company industry offers two different options for straddling that divide.

The first possible middle-way strategy is a tried-and-tested investment company tool: the regular savings schemes offered by so many closed-ended funds, which will often accept monthly contributions of as little as £25. The big advantage of regular savings is that by drip-feeding money into the market, investors don’t get badly caught out by a dramatic reversal. They also benefit from pound-cost averaging, the statistical quirk that helps smooth out market ups-and-downs – during periods of falling prices, investors’ fixed monthly investment buys more shares, which provides an additional boost during periods of recovery.

Alternatively, consider the second option. The Flexible Investment sector set up two years ago by the AIC is a collection of quite diverse funds that give their managers much greater freedom to invest in different asset classes as they see fit. These funds hold traditional assets including equities and bonds but may also have investments in areas such as infrastructure, debt and sometimes cash.

Where these funds’ managers make the right asset allocation calls, their wide-ranging remit may be valuable in helping them to navigate a path through market turbulence. By contrast, a fund mandated to invest only in equities, say, or only in certain markets, may find it much more difficult to steer clear of trouble.

In the short term, it’s generally a mistake to seek to second-guess markets, particularly where investors are focused on long-term financial goals rather than trading opportunities or challenges. Nevertheless, for advisers and investors wary about the year ahead, the investment company sector offers potential reassurance: it’s possible to remain exposed to world markets while proceeding with caution.