Vanguard’s LifeStrategy range has “wiped the floor” with active managers over the last decade, but may struggle to maintain this level of performance in the future, according to AJ Bell financial analyst Laith Khalaf.
The Vanguard LifeStrategy passive funds are blended according to risk profile, with 20 per cent equity in the Cautious vehicle and 100 per cent in the Aggressive one. All five funds have beaten their sector average since launch in June 2011, while the mixed-asset funds are in the top quartile over this time. There is now approximately £29bn invested in these strategies.
However, Khalaf said some of the tailwinds that have aided the LifeStrategy funds have started to abate in the last year, which has led to some short-term underperformance.
Notably, the four mixed-asset LifeStrategy funds have a set exposure to bonds, and in particular long-dated government bonds.
“This is an area where for a considerable period, active managers have tended to be underweight, to their detriment, taking the view that bond prices have been artificially inflated by central banks hoovering up assets as part of their QE programmes,” said Khalaf.
“But the last year has seen bonds sell off, thanks to the arrival of vaccines and a more positive economic outlook.”
This has put them at a disadvantage to active managers who can reduce their bond exposure, and their portfolio’s sensitivity to interest-rate rises by investing in shorter-dated bonds.
“Although the LifeStrategy range has an excellent 10-year performance record, it’s fair to point out that all of that period has been characterised by loose monetary policy and a buoyant bond market,” Khalaf continued.
“If we are entering a period with more inflationary pressures, and tightening monetary policy, the LifeStrategy funds may find their fixed exposure to long-dated bonds makes it more difficult to perform.”
Having said that, he added that it would be hasty to write off the bond market and the longevity of ultra-loose monetary policy.
“What’s more, LifeStrategy’s rebalancing of a fixed-asset allocation acts as a natural brake on exuberance, taking money out of areas that have done well, and recycling into areas that have fared poorly.
“However, in a bond sell-off, that would mean continuing to buy bonds on the way down, and in a prolonged bond bear market, that could prove painful.”
Performance of LifeStrategy funds over 10yrs
Source: FE Analytics
The best fund in the range from a relative point of view over the past 10 years is the LifeStrategy 20% Equity fund, which is the top performer in its IA Mixed Investment 0-35% Shares sector, reflecting the high weighting to bonds among its peers and the tendency of active managers to be underweight long-dated bonds to keep interest-rate risk in check.
Although LifeStrategy 100% Equity did the best in absolute terms, it only slightly outperformed its sector and underperformed the MSCI World index.
That can be attributed to two factors: first, the fund is 100 per cent invested in equities, so hasn’t enjoyed the kicker from a set exposure to bonds like the mixed asset funds.
Second, Vanguard also applies a home bias to its LifeStrategy range, which means around 25 per cent of the equity portion of the UK fund range is invested in UK equities. This is significantly above the market weight, with the UK now making up just 4 per cent of the MSCI World Index, compared with 67 per cent from the US.
“Over 10 years, this extra allocation to UK equities has weighed down LifeStrategy 100% Equity and other funds in the IA Global sector, compared with the MSCI World index, which has been propelled ever higher by the strength of the US stock market,” Khalaf said.
“[This year] the UK stock market has actually fared a lot better, which has led to better performance by LifeStrategy 100% Equity compared with the MSCI World index, albeit still slightly underperforming.”
The tables have also been turned on the rest of the LifeStrategy range, with most of the mixed-asset funds appearing in the fourth quartile of their respective sectors.
“The exception is the LifeStrategy 80% fund, which has still posted outperformance. However, some care needs to be taken when interpreting performance figures for this fund, as its equity allocation sits right at the top end of the maximum permitted for the sector,” Khalaf added.
“This means it takes more risk by investing a larger amount in equities than most of the funds in its sector, and so its relative performance will be largely driven by how well stock markets have fared in the period under assessment.”