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Risk and return

Multi-manager continues to grow in the number of funds and assets within them. Cerulli’s latest research points to 20 per cent annual growth between now and 2010.

Over 187 multi-manager funds are available. It takes time to research the differences in providers and funds to establish which ones are suitable for their clients.

It is important to consider the risk rewards by investigating whether performance is due to the fund following the market positive alpha, fund selection or simply luck. Each multi-manager tends to consider risk in a different way.

First, you may want to categorise your multi-manager. At Fidelity, we believe all multi-managers fall into three categories:

Risk mitigators – typically, the bigger, more institutional houses which place great importance on benchmarking. The aim is to reduce risk by very broad diversification, for example, you will see a long list of investment funds. The disadvantage is that by overdiversifying on volatility, you also diversify away any alpha a good manager may be providing.

Alpha generators – this group, which includes Fidelity’s multi-manager funds, concentrates on generating returns from active fund manager skills and overlying portfolio construction techniques. This group pays attention to asset allocation but avoids taking big allocation bets.

Aggressive asset allocators – this sector will try to time markets and make aggressive allocation calls to generate returns. Fund selection is still important but is not the main driver – asset-allocation bets are, which means performance can be stellar but also can dip considerably.

If you do not want to categorise, you can also look at risk-return charts but if a manager is outperforming the market by a mile, is it because he or she is lucky or is making skilful calls?

How can you do this research quickly? The simplest way is by using databases such as Lipper or S&P and comparing the performance to the level of risk taken against all the funds in the sector. Because of diversification of funds, in most cases, you should really expect your multi-manager to provide above-average returns at belowaverage risk. This is easy to spot by plotting the annual tracking error alongside the percentage returns. This is a quick way of seeing whether the units of risk you are taking are worth the results achieved.

It is also worth looking out for the research carried out by firms such as OBSR and RSM.

Phil Morse is business development director of Fidelity International’s multi-manager business

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