The Flying Colours Dynamic Portfolio range is managed with additional strategies that aim to make you more money over the long-term. We call these ‘Dynamic’ Strategies. Each portfolio in the Dynamic range is designed to target a long-term return of 1% a year more than the equivalent risk-categorised portfolio from the Core range.
Dynamic strategies can be expected to be effective over different time periods: short, medium and long-term. Long-term positions are those we believe offer excess returns through a wide range of economic conditions and we therefore expect to keep these in place for several quarters or years. Short and medium-term positions are where we expect to find opportunities to make money during different points in the market cycle. These positions can be held for as little as a few weeks or months.
There are three Dynamic strategies that Flying Colours will employ to target excess returns:
1. Active fund management
The portfolios in our Core range always invest into funds that are managed passively. This is a style of management in which the fund manager seeks to track a benchmark, such as the FTSE 100, rather than outperform that benchmark. Passive management is low cost and in most cases will lead to higher long term returns. There are situations, however, where paying for active fund management is likely to improve your returns. For this reason active managed funds are included across the Flying Colours Dynamic portfolio range.
We look for active managed funds that have demonstrated the ability to generate consistent excess returns over the long term. Funds employing a specific investment strategy or style may be employed here – such as those managed with a value investment process or those that look for companies paying an attractive dividend yield.
2. Specialist asset classes
These are opportunistic investments in asset classes not held within the core portfolio range. These typically look to take advantage of the changing dynamics of asset classes over the market cycle. Examples include high yield debt, emerging market debt and property.
High Yield Debt
Fixed income investments where the issuers are not considered to be investment grade. These bonds have a higher risk of default than investment grade debt, but this risk is compensated by higher yields.
Emerging Market debt
Bonds issued by less developed sovereign issuers (or countries) with lower credit ratings, the majority of which are below investment grade. The lower credit rating is offset by higher yields.
UK commercial property can deliver an attractive level of income and some potential for capital growth. Flying Colours may use funds which invest in a range of commercial buildings – such as office units, industrial lots, shopping centres and high street shops. The underlying asset class is illiquid – it can take many months for a property deal to be completed – and so property funds tend to have high cash levels as liquidity buffers. This type of property fund can offer an attractive alternative to fixed income funds especially when interest rates are very low.
3. Tactical Asset Allocation
This involves taking positions that are larger or smaller than the neutral positions adopted in the core portfolios.
At Flying Colours we believe that most markets are efficient or, in other words, that making regular changes to your portfolio will not normally improve your returns. However, based on our observation of results over the long term, we have identified some fund management techniques which may be used to either target increased returns or to minimise your risk over the economic cycle.
One such technique is factor investing. Factor investing is an investment approach targeting certain types of investment attribute that we can isolate and where this characteristic is likely to lead to better returns. At Flying Colours we are looking to harness three key factors – value, size and momentum.
Value investing is one of the most well-known factors and is used by thousands of fund managers around the world.
Value investors believe that stock markets can become too expensive or too cheap, and buying more of a cheap stock (or holding less of an expensive stock) can generate better returns for an investor.
The long term results from this style of investment have been extremely positive and it has demonstrated significantly higher returns for investors. We believe that value investing is an important approach and incorporate it in our overall asset allocation process.
Most of the market is made up of very large companies. Yet over the long term the shares of smaller companies have tended to produce higher returns than those of the largest companies. Having some degree of exposure to these small and mid-cap companies can contribute to increased long-term returns.
This tendency can be seen in many different markets, including the UK, where small and mid-cap stocks have outperformed UK large cap stocks over three, five, ten and fifteen years.
This is the tendency for winning stocks and markets to keep winning, and losing stocks to keep losing. While simple as a concept, and nothing to do with the fundamentals of a company or market, momentum has proven to be a powerful fund management tactic and is backed by many academic studies.
One of the earliest studies by Jegadeesh and Titman in 1993, showed that trading strategies that bought past winners and sold past losers realised abnormal returns over a 25 year period in the US starting in 1965. Momentum will help guide our positioning of the Dynamic portfolios.