Superficially, little is changing on account of the euro’s introduction on 1 January 1999. UK funds are not undergoing investment reviews solely on account of the changes to European currencies. However, there are a number of changes occurring just below the surface.
Firstly, the typical allocation to European equities has been rising both as a proportion of overseas equities and in relation to UK equities. Between 1989 and 1995, European equities were fairly stable at 40% of overseas equities. This rose to 47% in 1996, 58% in 1997 and currently, for the third quarter of 1998, stands at over 66%. Whilst there is undoubtedly a tactical element to these changes, it also reflects systematic changes at many of the leading managers.
Most managers have been reorganising and increasing the resources of their European teams. Europe is increasingly looked upon as a single market and thus on an industry basis rather than country-by-country. This definition generally includes Switzerland and the other non-euro countries. UK managers are combining their UK research and continental European research teams. This trend means that the overweighting of Europe in the overseas portfolio is unlikely to reverse as part of it now reflects an exchange for the UK equity portfolio.
Most fund managers are planning for when the UK joins the euro rather than ‘if’. When the euro comes, the managers are likely to treat the whole of Europe, euro and non-euro, as a single asset class. Some overweighting to UK assets is likely to remain - but probably as an extra weighting in small cap equities.
The other major change is in the use of non-government bonds. The euro is seen as the catalyst for growth in corporate bonds. Typically UK pension funds were very conservative in bond investment, but many are now relaxing their investment guidelines to permit investment in corporate bonds rather than just government bonds. There are likely to be opportunities in corporate bonds although caution is required where the investment team does not have a long track record.
Nick Spencer is with Callan, Bacon & Woodrow