Sending out the right message

The global market downturn has had quite an impact on investors’ attitude to asset allocation and risk, and Asian high net worth investors, who are known to be risk takers and trading-oriented, are gradually seeking private bankers’ advice on how to build a portfolio that can generate sustainable risk-adjusted returns for the longer term.

“Clients’ interest in asset allocation has significantly increased over the last two years, but this is part of a long-term shift and it is not something that can be achieved overnight,” states Werner Schlossmacher, head of investment solutions, Southeast Asia and Australasia, at Credit Suisse Private Banking.

“In Asia, private investors are still much more trading-oriented, compared to the Europeans, and as such they are taking advantage of the market recovery and they do proactively engage in trading strategies to maximise their profits,” he adds.

Like in many Swiss or European private banks, Credit Suisse’s wealthy clients are recommended to implement a core satellite approach in their asset allocation. Core investments, which should represent the majority of the portfolio, are longer term investment ideas focussing on an investment theme, such as Asian mutual equity funds, while satellite investments represent tactical ideas and trading opportunities to implement a specific investment view, says Mr Schlossmacher.

This is how the banks may approach asset allocation, but in Asia it is also very important that investors who prefer to be more actively involved in trading strategies are appropriately catered for. “We provide advisory clients with fundamental and technical views of the market, to make sure that we are advising them in an environment with the right professional attitude, which is suited to the client investment preference,” says Mr Schlossmacher.

While foreign exchange is the most traded asset class, demand for structured products seen as tactical, very short-term investment solutions, has increased in the market rebound since last March, notes Mr Schlossmacher. However, awareness of counterparty risk is much more prominent today than two years ago. “Questions and discussions have definitely increased about counterparty risk,” he says.

Nicholas Leung, senior vice president, investment products and advisory department at Bank of East Asia (BOE) in Hong Kong, confirms that the interest has come back on equity linked products, where the underlying can be a security, a basket of securities or an index.

“Hong Kong investors mainly use Hong Kong stocks as these are the ones they are more familiar with. But we warn them about concentration risk and recommend more diversified baskets or sectors of the market,” he says.

Bonds or bond funds, which were shunned by a lot of investors in the past, are also drawing client interest. “Today there is a more balanced view towards equities and bonds. I think bond funds are something every investor should consider, depending on their risk appetite and return objectives, because they have the ability to protect, to provide some sort of income, even when the market is moving sideways,” says Mr Leung.

The selection of bond funds available to distributors has also increased recently. “After Lehman, bond funds have become popular, and more fund houses are marketing their bond funds harder than before,” says Mr Leung, adding that BOE has just introduced a renmibi denominated bond fund in its product offering.

Total return

Total return funds, such as the strategy managed by Pimco that the Hong-Kong based bank offers on its platform, can be a good investment solution for clients, he says, as the decision to invest in different kinds of bonds and the relative market analysis is left to investment managers. Moreover, these funds aim at generating a relatively stable return, which is what a part of the portfolio should produce. In the rest of their portfolio, investors can go for something that provides higher return potential, such as emerging market equities, explains Mr Leung

Within equities, the regions to favour are those that have shown a significant corporate return improvement and that have population and infrastructure in place to promote their own consumption theme, says Mr Leung. Brazil, China, and some Asian countries like Indonesia or India fit these criteria. “Clients want individual country funds but as prudent investment professionals, we always explain to them that unless they are willing to accept the single country-specific risk or volatility, they should go for something more diversified,” he explains.

The different attitudes to investing that high net worth and retail investors had before the crisis have been clearly levelled out today, says Mr Leung, explaining that BOE serves both segments of the market.

“In the past, private banking customers would go for exotic structures or accumulators, they liked to try new things and were not afraid about leveraging them up,” he says. “Now the leverage has gone down a lot. Both retail and high net worth investors want something very simple. At the beginning of last year, when the market was still very choppy, all the investors, regardless whether they were retail or high net worth, moved to plain vanilla mutual funds.”

Simple is best

Derivatives are no longer used, and investors look for transparency and liquidity. “Credit related derivatives are something investors are afraid of nowadays and they are no longer offered in the market, after the Lehman crisis. And the long term sophisticated products are also off the table,” says Mr Leung.

“All investors have moved towards simple, high transparency, daily valuation products as much as possible,” he explains.

In Taiwan, last year’s government’s decision to ban the sale of any structured note following the Lehman tsunami, which affected the island particularly hard, has led to a remarkable increase of mutual funds in clients’ portfolios, says Sam Lin, senior vice president at Taishin Bank in Taipei. Changes in regulation in favour of offshore funds registration have also fuelled growth of the offshore fund market in general.

Structured notes in the past represented a third of clients’ assets at the bank, the remainders being mutual funds and insurance products, explains Mr Lin. Today, mutual funds have increased to two thirds of total assets, while insurance companies and dual currency deposits or investments make up the remainder.

Taiwanese investors, who were used to double digit returns before the crisis, are now asking their relationship managers for more explanations about products and seeking advice on what alternative solutions to structured notes are available. They want to know which insurance products they should invest to get an annuity income from, seek guidance on currency fluctuation and want to be warned about potential landmines like Iceland, he says.

“Customers have been lucky for years. In the old bull market people sought a profit of 15 up to 25 per cent before they even made a move,” says Mr Lin.

“Now they make 7 per cent and we get customers asking whether they should sell. We recommend our customers to realise their 10-15 per cent gain; everyone is happy with 10 per cent return these days.”

Asked how investors made such high returns he says: “A lot of markets, even the US and Taiwan have fluctuated a lot, investors are catching the waves, if you get the right wave then fine, if you don’t, you don’t.”

Taishin Bank offers centralised private banking service for high net worth investors, and manages $10bn in assets, which represent around 12 per cent of the total banking business. It offers five different portfolio models to investors, depending on client risk profile and needs.

“We design our portfolios according to our house view, which differs from quarter to quarter to adapt to changes in the market,” explains Mr Lin.

Sub-advisory mandates

The in-house asset management within the Taishin Group is used mainly for providing solutions for people approaching retirement or to manage money market funds. This means 90 per cent of the bank’s total fund assets are managed by third-party managers in open architecture, explains Mr Lin. The Taiwanese bank also awarded a sub-advisory mandate to Schroders to manage an absolute return mutual fund for the retirement market segment. Another mandate was given to UK manager Jupiter, on Greater China, ecology and banking industry assets, in order to expand its range of products.

But, aside from providing investment advice, client communication is seen as a key differentiator in portfolio management.

“Bad times are always the best time to test relationships with customers,” says Mr Lin, who oversees all the 96 retail branches of the bank as well as the private banking division. Unlike other competitors, which apart from Chinatrust, are all foreign private banks, assets at Taishin have not decreased during the crisis, according to Mr Lin.

This was partly due to the money inflows from troubled large foreign banks into domestic banks, but also to the bank’s ability to retain clients.

“Our strategy of shoring up customers in bad times worked. Lots of financial advisers sometimes are hesitant or reluctant to answer a lot of customer calls right away, but we tell our people this is the best time to face customers, to tell them that in good or bad times, ‘we are with you’. We open our hearts just to listen to their complaints, their worries; even a word of comfort sometimes helps customers.”

Necessary risk

David Cripps, senior strategic asset adviser of family wealth advisory services of HSBC Private Bank in Hong Kong, says that although investors are more cautious and deliberate about taking risks, they also accept the risks must be taken to earn return when deposit rates are so exceptionally low.

“Whereas 12 or nine months ago, money was put into intermediate maturity fixed income, clients now are more willing to go into equities. But in Asia, there is still a significant bias towards equities in portfolios. We definitely advise them to diversify globally; we almost always have some overweighting in Asia that is usually client driven. Often it is so overweight that we often and frequently tell them they should be invested in some of the other markets, like the US and Europe and some of the major developed markets. We do not withstand the various risks that people see there but there are going to be alternative times when they outperform very nicely, so we do try to get some balance in the portfolio.”

The way HSBC differentiates itself in portfolio management is by combining active and passive strategies with external managers alongside in-house managers, who can tailor mandates to specific needs like high-dividend yield, Asian corporate credits or bespoke hedge fund portfolios, says Mr Cripps.

In passive strategies, the main instruments used are exchange traded funds (ETFs), but only those which do not involve use of derivatives, he says. “We mainly use ETFs, but we have a very strong bias in favour of physical not synthetic replication. This is because [full replication physical ETFs] are simple and more straightforward and clients like it that way.”

They are used to gain core long-term exposure to the US and Europe, or other developed markets, but are also employed to gain exposure to regional markets. ETFs are becoming more accepted and popular and their percentage will increase in client portfolios, expects Mr Cripps.

Bank of Singapore, the new independent private bank which emerged from the recent acquisition of ING’s Asian Private Banking (IAPB) by Singapore’s OCBC, plans to leverage on the strengths of both banks to offer its clients more comprehensive portfolio management services. By acquiring the previously Dutch-owned Asian private bank, OCBC has tripled its private banking assets to $23bn.

“ING Asian private banking had developed a remarkable product offering, and this was one of the reasons why OCBC was very interested in buying us,” says Marc Vandewalle, head of product management at the new entity, and a 17 year veteran at the Dutch group, previously head of retail and private banking at ING in Luxembourg.

OCBC Private Bank customers will indeed benefit from IAPB’s open architecture product platform and proprietary research, as well as its discretionary portfolio capabilities, private equity offering, its expertise on emerging market fixed income, and its ability to execute trades in any asset class, he explains.

A quantitative and qualitative screening process and an open architecture approach, in particular, is something ING prides itself on. While lots of private banks claim to embrace open architecture, in reality only something like 20 per cent of funds in clients portfolios are actually managed by external parties, says Mr Vandewalle. “At ING Asia Private Bank less than 3 per cent of funds were managed by ING. That’s true open architecture, and it is a key differentiator relative to other banks.”

IAPB customers, on the other hand, will benefit from the access to OCBC’s branch network and products and services that were previously not available to them, such as property financing and retail and SME banking products and services. Moreover, in the major Asian private banking hub, where the large majority of private banks are branches of foreign corporations, having as a shareholder the second largest lender in Singapore, headquartered there, is a strong point. “That is very important to our clients because it brings trust and stability,” says Mr Vandewalle.

The alignment of services and portfolios will happen this year, but gradually, he says, as “in private banking you take time to explain and to talk to customers.”

OCBC customers were probably a little bit more conservative in their investments than ING clients, but that was due to the wider choice of products that the latter enjoyed, such as access to emerging market bonds, where ING is renowned for its expertise, he says.

Emphasising the importance of implementing a core satellite approach, Mr Vandewalle says: “In general we have a relatively bright outlook for the future, with respect to investments, and we like to overweight the exposure to risky assets. But at this stage we prefer to do it by using emerging market bonds. We were until recently also overweight in equities but we have taken a bit of profit off the table after the big rally, because there might be a little bit of volatility.”

Despite the rebound in hedge funds last year, investors do not show a huge appetite. “One characteristic of the Asian clients is that they are leveraged and that means they need to have liquid assets to borrow against, which hedge funds do not offer,” he says. “In Asia, the major obstacle to hedge funds is their lack of liquidity. The appetite for hedge funds is lower than it was before the crisis, although very large families tend to have a higher allocation to hedge funds, because they can deal with their illiquidity.”

In order to meet increasing investors’ demand, large hedge fund groups are launching relatively complex strategies in Ucits III (Undertakings for Collective Investment in Transferable Securities) structure, embedding higher standards of investor protection, liquidity and transparency than offshore or lightly regulated hedge funds. While these instruments have met with some success in Europe, they are less known and less popular in Asia, and there is less demand for them, Mr Vandewalle notes. This is also due to the fact that in Asia there is less appetite for funds in general than for direct investments.

However, penetration of funds is increasing, as people understand the benefits of using them for diversification purposes or to gain exposure to smaller markets and the potential is huge, says Mr Vandewalle.

According to the newly released results of Deutsche Bank’s eigth annual alternative investment survey, investors have turned positive on the prospects of the hedge fund industry, which gained more than 37 per cent in 2009.

Around 30 per cent of the 600 respondents – which cover a wide range of entities worldwide, representing over $1,000bn in hedge fund assets – have 10 per cent upwards of cash available to allocate to hedge funds, and more than half of them predict equity long short to be one of the best performing strategies for 2010, and will increase allocations to it. However, the lessons of the crisis are evident, as 80 per cent of investors will not make a new allocation to a fund that has frozen or suspended assets in the past, and 50 per cent of them require any start up to have at least $100m in assets under management before investing.

Increasing allocations

Asia ex-Japan is expected to see robust investor inflows in 2010. Around 45 per cent of respondents expect to increase allocation to Asia ex Japan this year, while nearly 30 per cent will increase weightings to China, expecting it to be the top performing country market.

Karen Tan, director of the hedge fund group at Deutsche Bank Private Wealth Management expects 2010 to be a challenging year with increased volatility and need for tactical changes in asset allocation, as well as within asset classes. “The environment can be expected to be a less supportive beta picture. Therefore both top-down alpha via dynamic asset allocation as well as alpha via manager and strategy selection will be crucial for a successful investment year in 2010,” she says

“Our preferred strategy currently is long/short equity as a means for controlled participation in stock market moves. We expect stock picking to become more important in 2010 due to expected higher dispersion of single stock returns after two years of extremely high correlation – 2008 on the way down, 2009 on the way up.”

Ms Tan believes emerging equity markets will outperform developed markets on both a three and twelve month horizon for both structural and cyclical reasons. “Within a hedge fund context, while the strategy is generally recognised as more of a beta play, as many managers have long exposure, the less efficient markets also provide opportunities for alpha generators.”

Deutsche Bank also sees opportunities in outright distressed investing with a rich opportunity set after company defaults, although Ms Tan says that such opportunities are more appropriate for investors with a higher risk appetite and illiquidity tolerance.

Werner Schlossmacher, Credit Suisse Private Banking