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Proceed with caution

Here’s a game you can play in your office. Take someone else’s money and gamble with it. If you lose, then the money was definitely all theirs. If you win, you share the spoils. Sound good?

Until recently, something similar was happening in the Investment Management Association’s cautious managed sector as groups took riskier and riskier bets to top the performance tables. Fortunately, the IMA has made it harder to play this game.

It has always struck me as odd that people place so much reliance on past performance data, especially for sectors so diverse as cautious managed. (For those of you who think we are conveniently taking this view of performance data because of sluggish performance, you obviously do not know us. For the record, T Bailey cautious managed is first quartile over the year to June 30, 2007).

Anyway, the problem started with the sheer amount of money flooding into the sector over the last few years fuelled by investor caution, the increase in self-invested personal pensions, exodus of with-profits money and emergence of truly multi-asset funds as the 21st Century alternative to the traditional equity and bond-only cautious managed fund. It is no surprise that these multi-asset funds have helped raise the overall standard of sector performance.

Additionally, a plethora of launches have fallen into the cautious managed space in recent years because they have nowhere else to go. Fewer than half the 106 funds in the sector were there around three years ago. At one end of the spectrum, there are funds which hold 60 per cent in equities and then some private equity or aggressive structured products on top. At the other end, there are funds which seem to be 80 per cent invested in cash or cash equivalents – and that is on an optimistic day. Try making sense of sector rankings on that basis.

The new guidelines will make it much harder for funds to seek to top the performance tables by taking a far from cautious risk profile in the hope of high returns while investors bear all the risk of the bets going wrong. These new rules must be a good thing, aiding comparison and making it harder to take excessive risk.

To confirm the change, then, in addition to the cap of no more than 60 per cent in equities, the IMA has now introduced a second test, namely, that cautious managed funds should have a minimum of 30 per cent in fixed interest and cash.

Back-testing the multi-asset-class T Bailey cautious managed fund shows we would have been in adherence to this second test from launch, had it applied, recognising that when we say cautious, we mean cautious.

Jason Britton is fund of funds manager at T Bailey

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