Coombs, who is head of multi asset investments at Rathbones, remains positive on equities compared with other asset classes, but thinks investors need to re-think their strategy if they are using passively managed funds at the moment. The manager expects the likes of the S&P 500 and the FTSE All Share to deliver relatively meagre returns of around 3 to 4 per cent next year because of current lofty valuations. As a result, he says investors need to find funds that do something different to their index.
“Indices are looking pretty expensive,” he said.
“Equities are still the most attractive asset class, but that’s not to say you should go out and buy the S&P 500. In this environment, you want to be taking stock-specific risk and not index risk.”
The manager is still bullish on equities over other asset classes in 2014 because he says bond-holders will struggle against the current backdrop of rising yields.
The manager understands why some investors are concerned about how the recent rally may have been built on central bank intervention instead of fundamental economic growth; however, he says investors would be foolish to remain underweight equities because of it.
“Will it be sustainable over the next 10 years? Who knows? All I can look at is what is going on in the consumer and corporate sectors as it is cheaper than ever for companies to manufacture products,” he said.
“This is a pretty normal recovery, it’s just the reasons behind it are abnormal.”
“If you were to stick to your guns and say the recovery is unhealthy and because of that you are avoiding equities, you are going to miss out on quite a lot of returns,” he added.
Despite his optimism for equities, he urges investors to be selective when it comes to picking their funds.
For example, he says that by looking at the S&P’s recent performance and its current P/E ratio of close to 20 times, it is possible to come to the conclusion that the US is overvalued.
Performance of index over 1yr
Source: FE Analytics
The manager says that he is looking for funds that can give him exposure to the US’s domestic market, because buying the index predominantly provides exposure to big international earners and high yielding stocks – two areas that he thinks will underperform because of their lofty valuations.
“I never really used passives for the US. Instead, we use a lot of actively managed US funds based in the States. We are looking for portfolios for the next three years, where we see that the strategy is not as expensive as the market,” he said.
“Growth has re-rated versus value, so value looks scarce. We need to invest in nimble, active managers, who can search out those valuation pockets. This means taking on significant stock-specific risk through concentrated funds,” he added.
The Legg Mason Clearbridge US Aggressive Growth fund is one that Coombs particularly likes. It is a fairly concentrated multi-cap portfolio of 64 holdings and its top-10 makes up close to 50 per cent of total assets.
According to FE Analytics, the $1.3bn fund, managed by Richie Freeman and Evan Bauman, is a top-quartile performer in the IMA North America sector over five years with returns of 162.14 per cent, comfortably beating its benchmark in the process.
Performance of fund vs sector and index over 5yrs
Source: FE Analytics
It is also a top-quartile performer over one and three years.
Legg Mason Clearbridge US Aggressive Growth has a different portfolio from the majority of its rivals and its managers are willing to take large stock bets. For instance, its largest holding is the biotech firm Biogen Idec, which makes up 7.49 per cent of AUM.
There are only 3 other IMA North America funds that count Biogen Idec as a top-10 holding.
Legg Mason Clearbridge US Aggressive Growth has an ongoing charges figure (OCF) of 1.77 per cent and requires a minimum investment of $1,00.
Coombs also likes the Legg Mason Royce US Small Cap Opportunity fund.
It has also performed well recently, returning more than 40 per cent over one year. The fund is more diversely spread than the other Legg Mason funds, however, given that it compromises close to 300 holdings.
Although Coombs is overweight US equities, he says that looking for funds that do something different to their index is important no matter which market you have exposure to.
“Over the next year I think indices will return 3 to 4 per cent, so in order to generate high single-digit returns, you need to be invested in high-alpha funds. There just isn’t much value in any geographical index,” he added.
Coombs manages the Rathbone Multi Asset Strategic Growth Portfolio, the Rathbone Multi Asset Total Return Portfolio and the Rathbone Multi Asset Enhanced Growth Portfolio.
His funds are popular among advisers due to their volatility-targeted returns. However, as all three funds sit in the IMA Unclassified sector, judging their relative performance is quite a difficult task.
Since Coombs launched the funds in June 2009, he has returned 36.11 per cent while his peer group composite has returned 24.08 per cent.
Performance of manager vs peers since June 2009
Source: FE Analytics
His funds all require a minimum investment of £1,000 and have OCFs ranging from 2 to 3 per cent.
In an article later today, FE Trustnet will look at funds that have a proven track record of adding active value to their benchmark.
