Multi Manager Income Trust - January 2012 update

During December the Legal & General Multi-Manager Income Trust returned +1.16%, compared to +1.33% for its IMA sector average*.

Fund selection was positive over the month with, Investec Global Gold, Invesco Perpetual High Income, First State Asian Equity Plus, Investec Emerging Market Debt, M&G Optimal Income and First State Latin America adding c0.4%, c0.2%, c0.2%, c0.2%, c0.1% and c0.1% respectively in relative performance terms. In contrast, holdings in Guinness Global Energy (c-0.3%) and GLG Alpha Select Alternative (c-0.1%) were detrimental.

Asset allocation detracted value in December with leading negative contributions to relative performance coming from exposure to gold equities (c-1.2%), the overweight to emerging market equities (c-0.5%) and the underweight to US equities (c-0.3%). The bias to corporate bonds (including high yield) as opposed to developed market government bonds within the fixed income portion of the portfolio and the underweight to cash each proved positive.

* Source: Lipper, % Growth, Total Return, GBP, net of fees, from 30/11/2011 to 31/12/2011

DECEMBER MARKET REVIEW

December was, on the whole, a quiet end to the rollercoaster ride that was 2011. The MSCI World Index produced a positive return for the month, with US and Japanese equities particularly strong whilst continental Europe lagged. Currency movements had a material effect as the US Dollar again gained ground against both the Euro and (to a lesser extent) Sterling, although it fell against the Yen.

Government bonds had a solid month to close out the year, with the major developed markets of the US, UK, Germany and Japan all seeing their benchmark 10-year yields fall. Corporate bonds (including high yield) also had a decent month, indeed faring better than their sovereign counterparts.

Elsewhere, gold had a traumatic month, echoing the events of September when the US Dollar also rallied strongly against other currencies. Despite this, gold still had a strong 2011 overall – one of only a handful of assets to do so. Oil prices fell back a little in December, while the continued relative outperformance of WTI over Brent saw the Brent-WTI spread fall further.

In money markets, the US Fed made no changes to interest rates and continued to lengthen the maturity of its US Treasury portfolio. Meanwhile, the ECB cut its interest rate for the second month in a row and, importantly, announced the relaxation on the quality of the collateral it will accept when granting loans to the region’s banks. In the UK rates were held for the 34th month in a row; whilst the Bank of Japan maintained its target range for the overnight call rate.

REVIEW OF 2011

The ushering in of a new year means that we will, as usual, look back at the year just gone and assess our investment performance. Unfortunately, we begin with an earnest apology to all our investors for our underperformance in 2011. This represents the first calendar year of underperformance for our funds, coming after three consecutive years of outperformance in 2008, 2009 and 2010.

Overall, asset allocation was the main negative impact on the Trust’s relative performance over the year, most notably an overweight position in Gold Equities, followed closely by overweight positions in Emerging Market equities and Asia Pacific (ex Japan) equities, which more than offset the significant positive of an underweight allocation to Europe (ex UK) equities – the latter being a position we have had since early February 2010. Our position in gilts also helped to dampen the negative impact from asset allocation as yields fell and closed much of the gap to their US and German equivalents.

At the start of 2011 we said the global economic landscape would remain unbalanced, but we opined that the global economy would continue to grow albeit at sub-par rates in developed economies. We believed that the scale of the challenges facing developed economies would not only ensure that monetary policy remained accommodating throughout the year, but quantitative easing and the explosion in central banks’ balance sheets would continue.

Given the above, and our view that developed market government bonds were generally unattractive with yields below fair value, we had a bias to risk assets (equities over government bonds and cash) albeit with a focus on the more defensive, high quality and income-focused opportunities. This was augmented by what we believed were sensible specialist positions in gold and energy, and allocations to certain alternatives. It is also worth recalling that we adjusted our exposure to Asian and emerging markets equities at the start of 2011 (and throughout most of the year) in favour of the US (and Japan after its earthquake and tsunami), while still retaining a bias towards developing markets over developed ones.

So what actually transpired?
Equities failed to outperform cash and government bonds as the Euro-zone debt crisis spread rapidly, starting at the smaller peripheral countries, then moving on to engulf the bigger boys of Italy and Spain, before finally even France came under assault. Investors took fright and fled into perceived ‘safe’ government bonds, driving yields down to historic lows, whilst equities suffered as both consumer and business confidence fell.

Moving to gold, which continues to be a key theme in the portfolio, although the price of physical gold did rise as we expected, this was not reflected in the equities of gold miners. This difference in returns had a notable negative impact on performance given our high conviction position here.

Gold has benefited from a favourable backdrop over the last few years and is increasingly being traded today as a currency. The gap between the price of gold equities and gold itself is wider than it has ever been, even though the companies are seeing higher earnings per share and higher dividends. We do not believe that the market has appreciated or recognised this achievement. We will need to be patient, but eventually fundamentals do matter and do win out.

Turning to Asia Pacific (ex Japan) and emerging market equities, these were shunned over the course of the year as investors preferred ‘safer’ assets. This hurt the performance of our funds, but the blow was somewhat cushioned by our bias towards defensive, high quality and/or income orientated equity managers. In particular, First State Asian Equity Plus and First State Latin America made positive contributions to relative performance. In a wider geographical context, this was also reflected in the strong performance of Invesco Perpetual High Income, Veritas Global Equity Income and CF Morant Wright Japan.

Towards the end of the year we increased our position to Asia and emerging markets as we do not believe that the underperformance seen in 2011 represents the start of a long term trend reversal. We must remember that the regions’ healthy fundamentals contrast starkly with those of the western developed markets and provide plenty of ammunition to support growth.

FUND MANAGERS' OUTLOOK

What does 2012 hold in store?
The year has begun with global economic growth slowing and with most of Europe heading for, if not already in, recession. There is a general feeling of pessimism in the air, but policymakers have already started the reflationary process. In the US the Fed’s balance sheet is now expanding again; in Europe the ECB has swiftly cut rates and provided unlimited liquidity to the region’s banks; in the UK’s the second round of gilt purchases (with maybe a third to follow) is underway; in emerging markets and particularly China the process of policy easing is under way.

Hence we have a tussle between the forces of a reflationary push versus the pull of sub-par growth. So we may well be in for another volatile year, not least as the European debt crisis remains a real wild card. We thus continue to advocate a pragmatic, flexible and nimble investment strategy. We have made no changes to the portfolios as we begin the year – the majority of our equity exposure continues to be with high quality, defensive and/or income orientated managers; biased towards Asia (ex Japan) and emerging markets. We also retain our allocation also to gold and energy stocks. A highly volatile market backdrop also lends itself towards certain Absolute Return / Long-Short strategies so we continue to have a c10% allocation here.

Within our bond portfolio, we continue to have a preference for credit and emerging market debt (local currency) over developed market government bonds. We believe the latter are relatively expensive, albeit the current uncertain economic back drop means yields may stay lower for longer here. Nevertheless, it is likely to take a major economic/financial event to cause them to drop significantly further from here. In contrast, there are many emerging market countries with more robust fiscal positions, better economic fundamentals and exchange rates that should appreciate over time. We believe that global high yield also represents an attractive investment at current yields, especially given the healthy balance sheet position many corporates find themselves in today.

Tim Gardner and Alan Thein, Fund Managers

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