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Absolute return

Deleverage climate yields prospects

Paul Brain, manager, Newton global dynamic bond fund

The process of deleveraging across the developed world continues to present significant risks to the global economy, with central banks compelled to keep monetary policy extremely loose to offset the effects of aggressive fiscal austerity measures.

This dichotomy of potentially inflationary and deflationary extremes renders the current investment backdrop significantly more volatile than that of the pre-Lehman crisis era. Thus, the ability of an absolute return approach to remain flexible and aware and to be unconstrained by an index is particularly pertinent to the generation of returns amid turbulent financial markets.

This fund runs an absolute return strategy which may invest opportunistically in government bonds, emerging market sovereign debt and investment-grade and high-yield corporate instruments. It may also hold (non-base) currencies and derivatives to generate additional returns and control risk.

The deleverage environment of low short-term interest rates and negligible growth nonetheless presents investment opportunities.

For example, the yields available on high-quality corporate debt remain attractive versus underlying government issuance, particularly given the current health of companies’ balance sheets, low projections for defaults and the curtailment of more shareholder-friendly management behaviour by the uncertain environment.

Similarly, the improving relative credit story of some developing markets presents an opportunity for relatively good returns in selective emerging market sovereign bonds, from which our strategy is well placed to benefit.

Meanwhile, these core long-term positions should be balanced by a flexible combination of “safe haven” government bonds (such as those of the US and the UK) and high-yield corporate debt which should be managed according to fluctuations in the outlook for global growth and the future of the eurozone.

Focus on dampening volatility can pay off

Tony Lanning, manager, Henderson multi-manager absolute return fund

The first quarter of this year was a remarkably pleasant period for investors. The equity market, as represented by the MSCI world total return index, enjoyed an almost unbroken rise and returned 8.7 per cent.

The contrast with the latter half of 2011 could not be more stark. Investors suffered a rollercoaster ride in which equities lost 7.1 per cent. The Investment Management Association absolute return sector fell by 1.5 per cent in the final six months of 2011 and rose by the same amount in the first quarter of 2012.

There were variations within this but the average experience was comfortably dull. Absolute return funds are, after all, supposed to be less volatile than their traditional cousins.

In fact, over the three years to March 31, 2012, the IMA absolute return sector has risen by 17 per cent. Some investors might find this disappointing but a return that is better than cash is precisely what most absolute return funds aim to offer. It is part of the sector’s job to educate investors that these products are not intended to deliver above-average returns in rising markets but to offer less volatile returns over the long term.

April saw a resurgence in some of the macroeconomic concerns that inflicted so much pain on the markets last year. Sovereign debt fears, worries about fragile economic growth and potential political upsets loom large. Those absolute return products focused on dampening volatility should be well positioned to cope with – and perhaps exploit – such uncertain times.



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