AJ Bell funds – February 2021 update

The AJ Bell funds are managed by us, for you. We make the day-to-day decisions to keep your money working hard whatever the market conditions.

As you'll know, the last twelve months have been a turbulent time. To make sure the AJ Bell funds reflect the changed market landscape in 2021, we’ve updated the asset allocation of each fund as well as some of their underlying investments. In this article, I'll outline what those changes are and explain why we’ve made them.

How are we allocating your assets?

At the bottom of any investment factsheet, you’ll see a disclaimer along the lines of: “past performance is not indicative of future returns”. This is to stop investors inferring that strong (or weak) historical returns will necessarily be repeated in the future.

Although this warning is true to the extent that higher returns don’t always last, it isn’t entirely correct that we can’t look at what’s happened in the past when anticipating what may perform better (or worse) in the future.

Take bonds as an example. Over the life of a bond the return is fixed, so high returns in early years will be balanced out by lower returns further down the line (or in the future). In 2020, bond prices moved higher as interest rates fell, making certain bonds less attractive to hold compared to a year previously.

To account for this, we update the asset allocation of the AJ Bell funds at least once a year to incorporate our future expectations. When markets are steady, this can mean we make few changes. But in a year like 2020, it can mean we make more meaningful changes to how we position your investments.

Source: Morningstar

For example, technology stocks did very well over 2020. Investors predicted higher growth, spurred by more people working from home and embracing services such as Zoom. On the other hand, energy shares suffered. Demand for oil fell on the back of lower economic activity, travel, and general concerns around the use of fossil fuels.

However, as the rise of over 40% for technology shares exceeds its growth in profits, the share prices are relatively more expensive. The fall in energy shares by over 30% is, again, in our view a short-term reaction by investors, making the shares relatively cheaper if this is just a short-term issue.

Some of the changes we’ve made to the AJ Bell funds are to position for these changing expectations. Others are to ensure we keep the overall risk level correct – for example, a risky investment in energy stocks will need to be offset with an investment in less risky shares such as utility companies or even bonds.

I’ll now explain the key moves we’ve made based on the changing landscape. You can see a list of all the changes we’ve made at the end of this article.

Changes to the AJ Bell growth funds

For our range of growth funds, we’ve reduced our holdings of bonds issued by companies, rather than countries. The former did very well in 2020, in some instances delivering a return of over 10% – despite seeing the highest number of companies ‘defaulting’ on their debts since the global financial crisis in 2008–2009. This performance was driven by action from central banks, such as the Federal Reserve in the US who committed to buying these bonds themselves to create liquidity in the markets. As we touched on earlier, when a bond price goes up significantly its future returns are lower.

Because of the action by central banks to support the economy in 2020, there is a risk of higher inflation in the future as the world returns to ‘normal’ and all this financial support is spent. As such, we have introduced positions in the funds that will do relatively well if this inflation comes through. In the lower-risk Cautious, Moderately Cautious and Balanced funds, we’ve done this by introducing bonds called TIPS (treasury inflation-protected securities), whose paid interest rate increases each year in line with inflation. We’ve also invested in the shares of utility companies, given they are able to pass price increases onto customers through their bills.

Within the higher-risk Moderately Adventurous, Adventurous and Global Growth funds, we’ve also added energy shares. This is not only because its valuations have fallen – making future returns potentially higher – but also because commodity businesses are able to increase prices in line with inflation. Across all funds holdings, we’ve also introduced infrastructure companies. Similarly, they are also generally able to pass on inflation with the projects they undertake. Furthermore, the strategy of many governments to recover from Covid is to invest in infrastructure – indeed, a current slogan of the US president, as well as the Conservative government in the UK, is to ‘build back better’.

To fund these changes, we’ve reduced our holdings in technology shares – which have done particularly well – and lower-risk shares such as healthcare and consumer staples.

In the Balanced fund through to the Global Growth fund, we’ve added separate allocations to China, India, and in some cases, both. Given the growing importance of these two countries, which already represent over one fifth of the global economy and are growing quickly, we think now is the time to ensure the higher-risk funds have significant exposure.

Finally, we have taken the decision to remove property shares from all our funds. These suffered badly in the first half of 2020, as the first lockdown hurt commercial property such as shops and offices. Although the sector bounced back strongly in the second half of the year, it still ended down around -8%. If property rents remain steady, and properties are occupied by tenants, returns for the sector in the future could be higher. But the caveat is that when the world does recover from the Covid pandemic, there is no certainty that the trend to shop online and work from home will fully reverse. Given these heightened risks, we instead prefer infrastructure shares, which we believe have similar characteristics as property, without the same uncertainty.

Changes to the AJ Bell income funds

Within our two Income funds, we’ve looked to follow the changes in the Growth funds as closely as possible. That includes reducing our exposure to property, as well as introducing positions that should do relatively well in a higher-inflation environment: such as TIPS and infrastructure.

However, given the requirement for higher income in these funds, we haven’t made separate investments in sectors or countries – such as China or India – where dividend rates are currently lower. Despite that, we have increased our allocation to global shares, which allows us to search for funds with a focus on income without limiting them to certain regions or sectors. Given the changing environment and varying regional Covid recovery rates, we believe this flexibility will allow us to keep the overall yield of the funds above 3%, and as close as possible to 4%.

We have kept our exposure to UK shares broadly steady. But as outlined already, we’ve moved away from UK property shares in favour of international equities. This is because dividend yields have fallen significantly in the UK but have remained much more stable globally.

Responsible Growth fund

As the Responsible Growth fund only launched in November 2020, we’ve made far fewer changes. The only major update is an increase in UK shares, in response to a new range of ETFs that only launched at the end of 2020.

So what underlying investments have we changed?

To change the asset allocation in each fund and ensure we’re well positioned for the themes we’ve outlined, we’ve also updated some of the underlying investments in each portfolio. This has seen us introduce new providers into the portfolios, and vary the type of fund we hold to include investment trusts and index funds – depending on whether it’s an AJ Bell Growth or Income fund.

Keep in mind that the we haven't removed any investment because we no longer like it and have decided to sell. It simply means that we no longer have an allocation to that asset class, or that we want to achieve our new asset allocation in what we feel is a more efficient and cost effective way for our investors – so have decided to change the underlying investment.

Read more about our AJ Bell funds

List of growth funds changes

Additions:

Removals:

List of income funds changes

Additions:

Removals:

List of Responsible Growth fund changes

Additions:

Read more about our AJ Bell funds

Important information: The value of your investments can go down as well as up and you may get back less than you originally invested. Past performance is not a guide to future performance and some investments need to be held for the long term. Target yields are not guaranteed and can fluctuate. These articles are for information purposes only and are not a personal recommendation or advice.