Be cautious but look to make a profit

John Cremer

Conventional wisdom holds that the slice of any portfolio put into mutual funds is going to be there for the long term.

However, smart investors also know that market volatility spells opportunity, so they are taking profits where appropriate and actively considering funds that reflect changing economic trends and are forecast to give consistently higher returns.

'It is not a time to panic, particularly if you are a medium to long-term investor,' said Jon Dingley, managing director of TTG (HK). 'But, in general, we recommend that our clients crystallise some of their profits gained from long-only equity funds over the past few years and increase exposure to certain alternative strategies or hedge funds.'

While predicting further volatility and 'plenty of it' in the next three to six months, Mr Dingley indicated that investors should take careful note of the potential downside risk of funds in which they were invested. They should make it a priority to review exposure and, if necessary, realign their portfolios. Doing this on a regular basis allowed them to maximise the chance of achieving absolute returns irrespective of the direction of markets.

He said certain investment themes now merited special attention. These included agriculture, water, consumer goods, infrastructure, Asian technology and, above all, China.

'There are some sectors we like, such as agriculture-related commodity funds,' Mr Dingley said.

He noted that some people, well known in the international investment community, had already stated publicly that one of the next big trends would be the growth of agricultural funds.

'If you look at how the figures stack up, you can see why. Global warming is having an effect on the price of wheat and other commodities and, irrespective of what happens on stock markets, people need to eat.'

The usual way for the average investor to access this sector is through a fund with exposure to an agricultural commodity index. The companies invested in might be suppliers of farm machinery, irrigation equipment or even chemicals and fertilisers.

Alternatively, it is possible to buy into a specialised hedge fund, which might deal predominantly in metals, energy and oil, but also have about 5 per cent of its holdings in agricultural commodities, trading coffee, sugar and wheat.

Typically, Mr Dingley explained, such funds were 'a little more exclusive', with a minimum investment of perhaps US$30,000 or higher. 'Generally speaking, they are globally focused. But it is no secret that China has massive demand and is already a big player in that regard.'

He suggested that investors should also look for opportunities linked to the mainland's increasing need for water. Experts estimated that 70 per cent of the available supplies are already too polluted to irrigate arable land, so concerted action would have to be taken.

'Clearly, they will have to spend on that, so it will benefit companies able to help in rectifying the problem,' he said. The mainland's substantial reserves could afford to finance these projects and could no longer afford to postpone.

'From our perspective, we look at the markets of China and India, and how much the respective governments are committed to spending on infrastructure,' Mr Dingley said. 'That has to have an effect on the requirement for commodities and building materials.'

He said that some funds had been set up to invest mainly in companies specialising in the water filtration process and piping. This made it possible to give clients a small exposure in their overall portfolio as a first step towards involvement in the sector.

The increase in environmental awareness means that ecology funds are also gaining in popularity. These generally focus on companies in renewable energy and, to a certain extent, can provide a feel-good factor. However, Mr Dingley said that, for most investors, this only counted for so much.

'First and foremost the issue is how do these sectors stand up and do they eventually make money,' he said.

Cindy Fu, head of investment for the wealth management division of Standard Chartered Bank (Hong Kong), said that local investors now had mature expectations about mutual fund performance but should remain aware of new opportunities. She said that many people had been expecting a correction after the strong gains in equity markets in the first half of the year. The subprime crisis in the United States had little obvious impact on local investors, most of whom were focused on Asian and China funds.

'At the end of the day the economic data is still very strong in this part of the world, and the overall sentiment is good,' Ms Fu said, adding that macroeconomic forecasts indicated that heavier weighting towards China made good sense. 'China is always there as the theme,' she said. In recent weeks she had seen switching between funds rather than redemptions, as some investors sought to rebalance their portfolios.

As ever, diversification was the key, with something in each 'pot'.

However, in the present environment, she suggested considering bond funds paying monthly dividends, and thinking twice about certain higher-risk single-country funds, which might have trouble repeating rates of growth seen earlier in the year. 'We don't encourage switching too often, but you should review your goals.'