On the horizon: funds to watch closely in 2024

2024 begins with a very different economic and market landscape from 2023. Interest rate rises have drawn to a close, inflationary pressures appear to be ebbing and some of the doomsday scenarios envisaged at the start of last year now seem unlikely to come to pass (although we cannot completely rule them out.) After a year where share prices for technology companies have soared, bond yields have risen, and areas such as smaller companies have lagged, the valuation considerations for investors are also very different.

Against this backdrop, expecting 2024 to look like 2023 is unrealistic. While there is nothing to suggest that the mega-cap technology stocks will weaken, they seem unlikely to lead markets once again. In November and December, investors had already shown signs of branching out, exploring other themes and revisiting some of the sectors that had been hit hardest by high interest rates.

In this spirit, we would suggest investors take a look at some of the following areas over the coming months.

Unfashionable managers

Even great fund managers will have difficult patches. Their valuation discipline may have seen them swerve the technology giants, or their style may simply be out of favour. Alternatively, they may just be in a sector that’s having a tough run.

Nowhere is this more true than in the UK. Some valiant managers have managed to eke out a decent return in 2023 in very tough conditions, but a better environment could see them perform better. We would highlight funds such as TM Tellworth UK Smaller Companies and Unicorn UK Smaller Companies, which rose 6.7% and 3.7% respectively in 2023*, against very tough conditions. They still came in near the top of their sector and should have more to come in 2024.

The same is true for some of the equity income managers. The value team on Schroder Income, and Carl Stick on Rathbone Income both delivered a creditable performance over 2023, but could do so much more if the environment turns in their favour.

Watch our interview with Carl Stick from October 2023 discussing the outlook for dividends

Asia Pacific

It has been a tough period for Asia. Mostly this is the influence of China, which is 31% of the MSCI Asia ex Japan index** and has held back sentiment for the wider region. Funds that don’t hold any China exposure have been the sector’s strongest performers this year. For the most part, these have been dividend-focused funds, such as the Jupiter Asian Income fund, whose manager Jason Pidcock has held a zero weighting in China since 2022.

For 2024, there is a chance that China revives. It has been the only major sector not to participate in the rally since the start of November and valuations look very low. Although some investors still consider it uninvestable because of ongoing geopolitical tensions, there has been some thawing of relations with the US. Equally, there is the possibility of a stimulus package from the Chinese government to revive the economy.

For those wanting to put a toe in the water, Schroder Asian Income is significantly underweight China, but still has a 20% weighting held across equities and fixed income***. This is balanced with significant weightings in more defensive markets such as Australia***. It also has exposure to TSMC and Samsung***, which may share in the AI riches over the next 12 months.

Interest rate beneficiaries

2023 was dominated by speculation over inflation and interest rates. A number of sectors have been hit particularly hard. Areas such as infrastructure have faced a double whammy: they have struggled with outflows as investors have moved back to fixed interest to capture higher yields and they have seen the value of their cash flows diminished by higher interest rates.

However, the worst is almost certainly over and these funds have seen a significant revival since the start of November. For the most part, there is nothing wrong with the assets they are holding, valuations have come down significantly and they still pay reliable, inflation-adjusted dividends.

M&G Global Listed Infrastructure is one option. It has a yield of 2.9%***, lower than some of the investment trusts, but has proved more stable over the past year. It holds a diversified portfolio of assets from across the globe. VT Gravis Clean Energy Income may suit those who want an environmental tilt to their portfolio. It has been more volatile, but holds a number of out-of-favour investment trusts, which are ripe for a recovery.

For a change of theme

For much of 2023, markets have been minutely focused on a single theme: artificial intelligence and in particular, on the ‘Magnificent Seven’ companies with deep enough pockets to make the running on it. This focus is perhaps understandable. At a time when the economic climate is uncertain, it makes sense to gravitate to clear trends where long-term earnings appear assured.

However, amid the focus on AI, a lot of equally-compelling themes have been left behind. Healthcare seems an obvious port of call, with innovation in areas such as obesity management, Alzheimer’s and MRNA technology. James Douglas, manager on the Polar Capital Global Healthcare Trust, says: “The healthcare sector is heavily out of favour but is attractively valued, is delivering high levels of innovation and has consistently shown the ability to deliver stronger revenue and earnings growth, regardless of the economic, political and regulatory environment.”

Watch our recent interview with co-manager Gareth Powell to learn more about the trust

If investors are reluctant to step away from technology just yet, we suggest a diversified technology fund such as the AXA Framlington Global Technology fund. This gives investors exposure to big tech names, such as Apple and Amazon***, but broadens it out with exposure to semiconductors, cybersecurity and other key areas.

Fixed income exposure

Plenty of asset allocators are forecasting a bumper year for fixed income in the year ahead as interest rates fall and inflation is tamed. However, there are nuances. Spreads for corporate bonds over government bonds are low, and leave little margin for error should the economic climate worsen. There are also risks in government bond markets, particularly around the level of debt developed market countries have built up over the pandemic.

A skilled strategic bond manager is likely to be the best option to work the various levers of duration, credit risk, inflation and currency. Invesco Tactical Bond is an unconstrained option, actively managing duration, yield curve and currency risks. The Aegon Strategic Bond fund is another flexible choice, investing across global fixed income markets. Manager Colin Finlayson says: “risk-adjusted income and total return potential from fixed income markets is very compelling” – and they are positioned to take advantage.

Alex Petelshki, co-manager of Aegon Strategic Bond, tells us why he believes fixed income today is a “once in generation opportunity”.

Any prediction needs to come with the health warning that black swan events can – and do – disrupt financial markets. Any revival of inflation could see investors take a very different turn. Nevertheless, with those caveats in mind, we see greater breadth to markets in the year ahead, which should make a refreshing change.

Explore the other side of this argument with a more pessimistic view of 2024.

*Source: FE Analytics, total returns in sterling, 2 January 2023 to 29 December 2023

**Source: MSCI index factsheet, 29 December 2023

***Source: fund factsheet, 30 November 2023