Absolute Return: The challenge of Absolute Returns

That world has since passed and what we’re left with – now and for the foreseeable future – is a markedly heightened desire for risk-adjusted returns. Investors would rather pay a ‘predictability premium’ in place of ‘shoot the lights out’ performance and the risk of getting hit with a stray bullet.

Hence the allure of absolute return funds, which promise to extract market or directional risk from a portfolio – the hedge – and benefit from stock-driven upside, while protecting the capital invested and returning more money than the investor would have received from a cash account.

Since the IMA introduced its Absolute Return sector in April 2008, it has grown from five onshore funds to 45 at April 12. While some have questioned the wisdom of labelling funds ‘absolute return’ – fretting advisers could potentially mis-sell such funds as capital protection guaranteed – it was the top-selling IMA sector in December 2009, with net retail sales of £511m.

That the average absolute return fund is larger (£388m) than the average Global Emerging Markets, UK All Companies or Managed fund, according to Morningstar, either illustrates forward-thinking advisers’ willingness to adopt hedge fund-style strategies as part of a diversified client portfolio, or (detractors claim) signifies absolute return funds as the next big investment fad, perhaps confirming that investors interpret ‘absolute return’ to mean ‘money-back guarantee – plus some’.

Advisers worth their salt will of course have tempered expectations by noting that during the wild ride of 2008, 50 per cent of absolute return funds posted negative returns. While Gartmore’s Richard Pursglove wisely advises selecting funds that have “deliver[ed] positive returns over time in different environments” (page 16), finding such a fund – given the youth of the sector – is itself a challenge.

Anna Lawlor is features editor at Investment Adviser