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Fear of ‘lost generation’ sparks calls for risk-targeted fund sector

The Investment Management Association faces calls to create a risk-targeted fund sector amid concerns a market crash could create a “lost generation” of investors.

The IMA points to a rise in the number of outcome-focused funds in recent years. “As part of our regular review process, we are looking at how these funds are accommodated within the IMA sectors and will consult with our membership in due course,” a spokeswoman says.

The organisation is working to establish whether the funds are similar enough to occupy a sector of their own or would be better suited to an existing sector.

Rathbone Unit Trust Management chief executive Mike Webb says his firm has been lobbying the IMA for three years to create a risk-targeted fund sector. In his view the body’s focus on equity exposure as a means of determining risk profiles and the lack of a risk-targeted sector are “stumbling blocks” for the industry.

Picking funds according to quartile rankings rather than specific risk-return objectives is an outdated approach that should be changed, Webb says. “We’ve lost generations of investors in the crashes of past years. They typically got in at the top and suffered the maximum drawdown because of following those fashions.”

Premier Asset Management multi-asset manager David Thornton says the Premier Liberation risk-targeted funds stick exactly to a Distribution Technology asset allocation.

Premier aims to remain within the volatility ranges set by DT and then achieve the best returns possible from the funds selected, he says. “What is criminal is if you miss the volatility target and the performance target as well.”

If the team adds a 10 per cent tactical deviation to the set asset allocation, he explains, a wrong move could send the fund well off track for its volatility target, defeating the purpose of the fund aiming to keep volatility constant.

“We don’t want to take excess risk to produce a certain level of income,” he adds.

Premier’s Multi-Asset range does not target volatility but rather offers reasonable return for different risk levels. It  uses the Sharpe Ratio to show investors how much they are rewarded for the risk they take on.

Rathbones head of multi-asset David Coombs says he is “pretty agnostic” about the use of risk-targeted and risk-profiled funds. “I don’t see it as a punch-up between the two but I’ve been asked to run a risk-targeted mandate.”

However, his funds are not the DT-led portfolios that many other risk-targeted funds are. “We’re a long, long way from the DT allocations. In fact I pay no attention to them at all.”

Coombs says risk-targeting fundamentally changes the way he runs money and balances risk. He is tasked with providing defined returns while abiding by a specific risk level and he builds his portfolio to that end.

For his medium-risk fund, the £86.9m Rathbone Multi Asset Strategic Growth Portfolio fund, Coombs has to keep volatility at two-thirds that of equities. This gives investors a reasonable idea of what to expect from such a fund.

“If the FTSE is down 10 per cent, my fund should not be down by more than 6 per cent, strictly speaking. That’s a bit crude but that’s how clients think of risk, really.”

 Running a relative return strategy, Coombs would be overweight risk and would look to outpace his peers, which means he would focus on his rivals rather than the investor. 

“If the markets go the way they have for the past 100 years, I’m probably going to be remunerated more on the return rather than the risk I’ve employed,” he says.

“There’s nothing wrong with choosing relative return if that’s what the client wants and if they’ve got a 30-year time horizon.”

The two types of investment have different risk budgets, so it is pointless comparing them in the same sectors, he says. “We are in danger of making risk the green witch from Wicked. When risk is rising it allows you to manage the portfolio  more efficiently. 

“When risk and volatility is lower it’s a nightmare for me: it’s hard for me to find things to invest in.

“I would argue that my risk bud-get is more aligned with the investor as I’m trying to minimise my drawdowns.”

JP Morgan Asset Management global strategic head Andy Larkin says the firm decided on the risk-rated approach when launching its Fusion multi-asset range last year.

“It’s a bit like the active versus passive debate: it’s what works best,” he says. “It depends on the capability of the group: we believe we’ve got the skill set, resources and individuals to make a robust asset allocation model with the risk-rating. We don’t want to be handcuffed by the external risk system’s asset allocation.”

It also allows him to take an active bet on short-term opportunities and mispricing. By doing so, the fund may stretch its risk-rated level or leave it unchanged. But Larkin adds that is always a brief deviation and the funds are not changing their fundamental risk profile.

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