Knowing when to call time on a fund is arguably as important as knowing when to buy one. Although it might make sense to stick to a strategy through periods of underperformance, that doesn’t mean remaining invested forever – after a fund has done its due (or hasn’t), it’s important to recognise this and move on.
Below, Trustnet asked three experts which signs they pay attention to that could motivate them to liquidate an investment.
Valuation
One of the first reasons to sell is if the underlying market or portfolio valuations become too expensive relative to their own history or to their intrinsic value, said Ben Mackie, fund manager at Hawksmoor Investment Management. This happened in his multi-asset fund to Schroders Strategic Credit.
“It's a fund that we have owned on and off for a long time and Peter Harvey is probably one of our most trusted managers within the fixed income space, but ultimately, he can only operate within the confines of his investment universe,” Mackie said.
In early 2020, corporate bonds started with very low yields to maturity, as a function of low government bond yields and tight credit spreads, but those credit spreads were blown out by the pandemic.
Subsequently, government bond yields went to “ridiculously low levels” and by the end of 2021, 10-year gilts were yielding less than 1%.
“It got down to almost 0.5% at one stage, and credit spreads were very, very tight on top. Schroders Strategic Credit was yielding somewhere around 4.5%,” said Mackie.
“That would be a prompt for us to sell on valuation grounds, because the risk/return profile is negatively asymmetric. The valuation of the portfolio lacked a margin of safety. This erosion of the safety margin is our primary reason for selling funds.”
Size
Another important prompt to sell is fund size, said Hawksmoor’s Mackie, as large funds restrict the manager’s ability to be active and generate alpha.
“The bigger a fund gets, the more its investment universe shrinks. If you’re an equity manager with a big fund, you can’t buy interesting small-caps and you can’t move around as quickly or as nimbly as you might like,” he said.
“We always interrogate managers on what they think their realistic capacity is. If a fund gets too big, that’s a massive red flag for us, unless they’re operating in an area that’s very, very liquid. Within small-caps, for example, we’d be wary about the funds that we own if they were getting much above £500m.”
Hawksmoor was an early investor in funds like Fundsmith Equity, Artemis Global Income and M&G Global Dividend, which were backed almost at launch and subsequently sold when they became too big.
Risk and reward
Jack Roberts, investment analyst at IBOSS, advocated for a “continuous evaluation of the risk/return profiles of investments”.
“It is crucial to recognise when mounting headwinds outweigh potential returns. For instance, we made the decision to sell out entirely of our real estate holdings in May 2023 due to the prevailing higher interest rate environment,” he said.
“This move was motivated by the availability of more lucrative options for generating yield/income that do not involve the added risk of investing in illiquid assets. Furthermore, other risks such as evolving consumer behaviour and business practices in response to the rise of e-commerce and the lasting impact of Covid-19 pandemic making commercial real estate less attractive.”
Changes in management
Any significant changes to a fund's management team can have a “profound impact” on the stability of a fund and Roberts suggested in some cases, it might be the right time to review an investment.
“When a longstanding fund manager retires, it can trigger questions regarding how the fund's mandate and processes may change under the new manager's leadership, as well as their ability to replicate the previous performance,” he said.
Style drift
Sometimes, it doesn’t take a team change for managers to stray from their own process – when this happens, it should worry investors, said Shannon Lancaster, fund analyst at Ravenscroft.
“The key reason we would sell a fund is style drift, or a manager’s statements and actions not aligning, which occurs when there is a significant change in how the fund is run either rather abruptly or slowly over time. Examples would be if a bottom-up stock picker started to make top-down decisions or a growth orientated manager suddenly started picking more value style stocks when they were in favour,” she said.
“Obviously, things aren’t often as clear cut as this in reality, but style drift is something we do attempt to identify in our fund monitoring work. Many decisions can be justified and if this is communicated to investors and in line with what we have signed up for as clients. Then it is unlikely that a sale is required.”
But then there are occasions in which it’s best to sell.
“We have in the past had an issue with a fund manager whose process allowed him to own around a 15-20% weight in a certain subsector. We often queried the position, but the manager assured us they were content with the exposure,” Lancaster explained.
“We then received the monthly commentary that stated that these positions had been halved across the board. Needless to say, we were confused and slightly disappointed. We requested a meeting with the manager and explained our frustrations, but when we arrived in London the manager was nowhere to be seen. It was a quick sell after that and we remain happy with our decision.”