With headwinds such as the UK’s vote to quit the European Union, some short-lived political uncertainty and all those wider issues such as slowing growth in China and a lacklustre global economy, active UK equity funds have faced a struggle making any decent ground this year.
FE Analytics shows the average member of the IA UK All Companies sector made a 3.2% total return in the first seven months of 2016, ranking it 30th out of the Investment Association’s 34 peer groups.
As a point of comparison, the FTSE All Share made an 8.5% per cent gain over the period (see Chart 1) while the best-performing sector – IA Japanese Smaller Companies – was up by 26.2%. Only IA UK Equity Income, IA Money Market, IA Short Term Money Market, IA Targeted Absolute Return and IA UK Smaller Companies had a worse run than IA UK All Companies.
The average UK fund’s failure to outperform the FTSE All Share may surprise some because more challenging market conditions are often times when the virtue of active management come into its own.
Indeed, in order to be in the sector’s top quartile a fund did not even need to beat the FTSE All Share. Nineteen of its members failed to outpace the index but are still in the top 25% of their peers.
Within the 267-strong sector there are funds that have outperformed the index this year. Total returns between January and the end of July within IA UK All Companies range from 21.7% from the strongest performer to a 12.7% loss from the weakest.
Reversal of fortunes
What is interesting to note, however, is the reversal in position that seems to have taken place over the past seven months. A number of funds that have been at the very bottom of the sector’s performance tables have been thrust to the top of it in 2016.
The table below shows the top 10 highest returns in the IA UK All Companies sector between the start of 2016 and the end of July, along with their quartile ranking for the three and five years to the end of 2015.
As can be seen, just under one-third of the funds have been in the bottom quartile (in some cases towards the very bottom end of the sector) over both the three and five-year periods.
But the table does not really do justice to the number of recent underperformers now at the top of the table over the short term. If we look at the entire top quartile over those seven months, which comprises 67 funds, then 24 or 35.8% are in the bottom quartile over the three and five years to the end of 2015. Even more funds are fourth quartile over three years, with 35 finding themselves in this position.
Turning to the FE Crown ratings, which rate funds on their stockpicking, consistency of outperformance against a credible benchmark and achievement of results at a relatively low risk over recent years – also shows the extent to which previously underperforming funds have risen to the top in 2016.
Twenty-six of the 67 first-quartile IA UK All Companies funds have an insufficient track record or are not eligible for a rating because they are trackers, leaving 41 with a rating next to their name.
Of these, just over half have a rating of one or two FE Crowns, which means they are in the bottom half of their sector for the metrics examined. Only eight funds – or less than 20% of the eligible top performers – have the maximum crown rating of five.
The top-performing fund falls into the former category. The £41.8m Standard Life Investments UK Equity Recovery fund, which is managed by David Cumming, holds one FE Crown after turning in bottom- quartile total returns over the three and five years to the end of 2015.
However, a strong run in 2016 means it is top decile over 12 months and has been dragged into the second quartile over the three and five years to the end of July 2016.
As the fund’s name suggests, it has a value bias as it seeks out companies that are unloved by the market but where there is potential for a turnaround. Top holdings include the likes of Glencore International, Barclays and Aviva.
The fund highlights a few of the reasons why there has been a switch in leadership in the sector this year. First, the value style has outperformed growth to an extent over 2016 so far. Chart 3 shows UK growth stocks have outpaced value by a significant margin over the past decade, driven by factors such as the liquidity-driven rally in so-called ‘bond proxies’ and a general aversion from investors to hold riskier stocks.
But this dynamic reversed in 2016. Over the first seven months of the year, the MSCI UK Value index posted an 11.4% total return, beating the MSCI UK Growth index by two percentage points.