Risk targeted as an investment style in DFMs

03 June 2015

Patrick Norwood – Insight Analyst (Funds)

An investment firm’s risk targeted fund offering will generally come in the form of a ‘family’ of multi-asset funds, usually managed by the same team and following a consistent investment process across the family. These funds will explicitly target risk in their objectives, with these targets increasing across the family.

Staying within volatility ranges

The targets will almost always be ranges of volatility, the standard deviation of the fund’s price. This means that the manager will have to reduce a fund’s exposure to riskier assets, such as overseas equities, and increase the allocation to less risky assets, cash and government bonds for example, if the upper volatility band is reached and vice versa if the fund’s volatility approaches the lower band. They could also change some of the underlying funds to less/more risky ones within each fund’s portfolio in order to reduce/increase risk.

Given the above focus on risk, performance becomes more secondary, with the result that it is unlikely these managers will significantly excel in the short to medium term but should instead deliver steady performance over the longer term.

It's about matching solutions with expectations

DFMs won’t normally describe themselves as being risk targeted, so portfolios of this nature can be hard to identify. They often, though, share the same characteristics – aiming for steady rather than spectacular performance, with a long-term target, while managing risk within the comfort zones of their clients. They will never ‘shoot the lights out’ but they are also less likely to suffer large losses.

In fact, many risk targeted fund families actually came from, or were likely inspired by, DFMs. Fully bespoke discretionary services exist for clients prepared to invest at least £250,000 or so while managed portfolio solutions will have minimums of around £20,000. Many clients, however, do not have or do not want to commit those amounts of money, even if they like the firm, its philosophy and process.

As a result, many DFMs have either unitised their portfolios, mirroring existing solutions, or attempted to reflect the firm’s house view and investment style by launching collective investment schemes. This gives access to the same, or at least very similar, investment management as bespoke and managed services, sometimes for as little as £1,000. The result is that several DFM firms have a full suite of investment solutions that appeal to all levels of client. Many advisers base their Centralised Investment Proposition on this model.

Whether it ends up being called risk targeted or not, the choice of the adviser or client to use one of the above – bespoke, managed or fund – depends on how much importance they attach to risk: if maintaining risk within a desired range is vital to them and returns more secondary, then these solutions may appeal. After all, most clients will have a minimum outcome in mind.

If, however, the adviser or client would like to try and achieve higher performance and are prepared to take greater risk, then there are other solutions that are more return focused and more designed for this purpose. In the end, though, one would expect that whichever route is taken, elements of risk control and performance focus will exist.

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