A preference for US debt and equities and an aversion to the emerging markets – at least for now – are two big calls fund manager Talib Sheikh is making in his new Jupiter Flexible Income Fund. 
The fund launched on Wednesday for Sheikh, who joined as head of strategy, multi-asset, in June this year from JP Morgan Asset Management (JPMAM) where he was a co-manager of the £1.2bn JPM Global Macro Opportunities fund.
The manager said: “The need for progressive income generation is a theme that is only growing in importance as life expectancies continue to increase in the developed world.”
However, with the 10 biggest funds in the global multi-asset income space, making up 65 per cent of assets in the segment compared with 53 per cent in 2009, “there is a clear need for alternative options for investors,” he added.
So, what can investors expect on day one of the new fund?
A key theme within the portfolio is Sheikh’s preference for US assets as economic growth should hold up despite quantitative tightening, which will take more of a toll on the emerging markets.
He said: “The big question is – is the US economy on a ‘sugar high’ post the Trump tax cuts and fiscal expansion?
“Yes, that is undeniably true. Really in no period in history have you seen such a pro-cyclical policy applied to an economy that is growing above trend.”
As a result, US economic data has been “incredibly robust” with unemployment at 44-year lows, inflation is relatively muted and economic growth hitting a nearly four-year high in the second quarter of this year.
US unemployment rate since 1948
The big question, however, heading into 2019 is whether or not this ‘sugar high’ will fade and what impact that will have on the data.
“I think some of it is likely to fade but you are seeing an increase in productivity and positive spill over effects from the tax cuts so I think it premature to totally dismiss the US as we go into Q1,” Sheikh said.
As such, it is unlikely that the economy will “fall off a cliff” just because the fiscal stimulus has been priced in and started to be unwound.
“The reality is that economies do have momentum and the US economy continues to have momentum,” he said.
As well as this, he noted that the US economy is still relatively insulated, with 74 per cent of GDP related to domestic consumption, which should only increase as the low unemployment rate begins to impact wage growth.
“It leads to outperformance in my opinion and we have reflected that in our portfolio in a sensible manner as we launch on day one,” he said.
The biggest weighting in the fund is to US high yield debt, which makes up some 30 per cent of the portfolio, as the below chart shows.
“You have certainly seen the US corporate sector increase debt levels and I am not making the case that high yield is as cheap as it was five or six years ago,” Sheikh said.
“But I think we have to take a step back and look at the US economy and when I think about what that means for the default rates in the US high yield market I think they are likely to remain relatively low.
“If we can build a focused mix of bonds, which we have done the due diligence on and that give us a yield of 6 or 6.5 per cent, I would argue in an income-orientated fund that is relatively attractive.”
Chart of probable asset allocation of portfolio
Source: Jupiter Asset Management
Conversely, the portfolio will have no dedicated exposure to investment grade bonds, as the manager said he would prefer to take on the risk in the high yield sector.
“The one thing I worry about – certainly within an income-orientated fund – is liquidity risk,” the manager said.
“You are doubling up on that risk in high yield and investment grade. I would prefer to do that in high yield because I think those yields are attractive, particularly when you marry it up with a benign view or relatively optimistic view of where the US economy is going.”
He is also taking a 10 per cent cash equities weighting to the US with some derivatives exposure on top of this – likely by way of the S&P 500.
“I think US equities are interesting here,” he explained. “They provide high-quality growth and I don’t sit in the camp that US equities are very expensive. It is about getting that in an appropriate risk approach.”
Conversely, he is “a little bit nervous about emerging markets” despite the sell-off in recent months making them more attractive on a relative basis.
Performance of indices over YTD
Source: FE Analytics
“The most important thing that is happening in the global macroeconomy at the moment is this divergence of the rest of the world versus the US and that is having negative connotations across emerging markets,” the fund manager said.
Global liquidity is being constrained as the Federal Reserve raises interest rates and undertakes a quantitative tightening program and this is adversely impacting the emerging markets after 10 years of accommodative policy.
“I think there will be an opportunity to invest in good emerging markets at some point in the future but I am not sure that 10 years of excess liquidity being generated is likely to be cleared out of the emerging markets system over the last six months,” he said. “So, I think there is further to go.”
Similarly, trade wars between a Donald Trump-led US and China is also a concern. While some of this may already be priced in, Sheikh said it is “worrisome”.
“It is unlikely to be resolved any time soon and it is one of the reasons why we are sticking to more developed investments within this portfolio – because we think it has further to go,” he added.
However, the fund manager has dipped his toe into emerging market debt as he noted the higher starting yields are attractive for an income-focused manager.
“Emerging market equities tend to be more growth-orientated – clearly they have higher growth rates – so we are finding some value across emerging market corporates,” Sheikh said.
“We will be making a small investment into our emerging market corporate bond fund and will make some selective investments across some sovereign where the investments are attractive.
“We have seen everything get beaten up on that liquidity story and that has created some very specific opportunities.”