Worth the risk

The global financial crisis has caused sustained and debilitating damage to the stock markets, economy and investor confidence.

This most recent crisis has been unique in that it can not be compared to any financial or economic disaster from the past, leaving many confused about the future and anxious that no timescale for recovery could be determined by using the past as a yardstick.

This environment has bred herd mentality, with many investors exiting the retail investment market in their droves. However, where can they seek refuge? In the past, investors have naturally migrated to the relative safety of banks but, with the banks at the root of the international economy’s downfall and interest rates at historic lows, this option is no longer as attractive as it once was. Bonds, also considered a safe haven in the past, are similarly volatile and equities are a shadow of their former selves.

Following the principle of diversification one alternative to simply investing in the stock market is to spread cash between several different asset classes - equities, property, bonds and cash - through a multi manager portfolio – or perhaps a more evolved client-focused solution such as a risk-profile driven fund.

Risk-profile driven funds are actively managed multi-asset portfolios designed to maintain a predetermined level of risk to suit different categories of investor. Such funds are already big business in the US mutual funds market and similar investment vehicles are beginning to appear on the UK market. These are not to be confused with lifecycle or target-date portfolios, pension funds that reallocate risk and assets over time as they work to a predetermined maturity date.

Given the current tumultuous backdrop, risk-profile funds have significant potential in the UK market when considering that investors increasingly want solutions rather than products and that, with an ever tougher regulatory environment, advisers must ensure that clients’ overall investment portfolios remain suited to their risk profiles as well as ensure that the client is invested in the right underlying funds.

Another compelling reason specific to the UK market as to why risk-based funds are likely to become an increasingly important part of the investment landscape is the evolution of more client-focused regulations. Risk-based portfolios enable advisers to address a number of the concerns of regulators, including those raised by treating customers fairly, in a very practical way that helps deliver a robust investment proposition to their clients.

Currently only a few investment management firms offer risk-profile funds but they all follow the same basic principle – matching asset allocation with client risk to a ready-made portfolio which corresponds to the client’s specific risk profile. Their aim is to achieve consistent returns within the risk/reward tolerance specified for each particular profile by identifying the right combination of assets matched to the client’s appetite for risk, this can be reduced and the performance potential of the investment boosted.