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Analysis: The absolute return conundrum

By , 16 Dec 16

There is a long line of asset managers rolling out funds aimed to “balance” and “diversify” returns, but is the multi-asset universe about to be turned on its head?

International Adviser

Lazard and Robeco today unveiled their latest launches in this lucrative space, with fund groups looking to deliver readymade solutions to those wealth managers and IFAs apprehensive about volatile markets.

2016 has been an exceptional year in many ways, with currency calls – often boiling down to choosing between a hedged or unhedged share class – arguably having a bigger impact on portfolios than allocating between countries, regions or sectors.

And with this week’s Fed decision and the latest dollar surge, it is clear the macro is likely to continue to hold sway in 2017 and beyond.

With outflows from equities and poor sentiment towards government bonds, it is clear the alternatives bucket has taken on even more importance in recent times.

"With outflows from equities and poor sentiment towards government bonds, it is clear the alternatives bucket has taken on more importance"

The growing popularity of absolute return funds – particularly those with a multi-asset mandate – adds further complexity to asset allocation.

“One of the big lessons over the past 18 months to two years is that absolute return and hedge funds in the main are short-duration assets, and they have clearly underperformed as bond yields have been falling” says John Husselbee, head of multi-asset at Liontrust.

“The reason these funds are short-duration assets is because of their benchmarks, whether it is three-month Libor or a cash benchmark, which is as short duration as you can get.

“In an environment that has favoured long-duration assets, perhaps it is fair to say that absolute return funds haven’t done so well because the managers’ objective is to outperform short-duration assets. They haven’t played the role in portfolios that everyone expected them to do so”.

Alternative investments can be broadly split into two camps – return enhancers and risk diversifiers/reducers. For Husselbee, the commonality between the two is that they tend to have low-to-zero correlation to traditional asset classes.

He adds: “The whole idea of diversification is clearly that a market might be rising while another one is falling and by having a combination of them the average does exactly that – it sits in the middle, with a smoother return.

“If you don’t like bonds, and I can totally understand that, beware that if you totally remove them from the Jenga pile, the whole thing could collapse.”   

Discussions about the ‘end of the bond bull market’ and the ‘beginning of the great rotation’ are huge issues that will impact multi-asset funds.

There is also huge scrutiny of the ongoing beta of these portfolios, something Victoria Hasler, head of research at Square Mile Investment Consulting and Research is keeping a close eye on.

“On the whole it is difficult to find funds that are truly equity market neutral as most tend to have some beta in them,” she warns.  

“Those absolute return funds with too much beta are those that have tended to disappoint.”

Tags: Federal Reserve | Investment Strategy | Lazard | Multi Asset | Robeco

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International Adviser covers the global intermediary market that uses cross-border insurance, investments, banking and pension products on behalf of their high-net-worth clients. No news, articles or content may be reproduced in part or in full without express permission of International Adviser.