After this profile has been determined, an investment portfolio is subsequently created and monitored around it. This has already given rise to an important shift, accelerating the outsourcing of clients’ investments, as advisers compensate for gaps in their expertise. Furthermore, this allows advisers to concentrate their businesses and frees them up to offer more holistic financial planning.
The very notion of suitability is set to alter the landscape even more markedly, prompting a need for risk-targeted funds that target a set level of risk - as opposed to risk-rated funds whose risks are simply rated - as regulators compel advisers to ensure their clients’ objectives are always met. However, there are very important distinctions between risk-rated and risk-targeted funds, and any lack of understanding could mean some serious problems down the road for fund-buyers and clients alike.
Essentially, risk-rated funds offer a snapshot of ‘risk’ that is attributed to a fund. This does not mean, however, that the fund somehow specifically aims to attribute that level of risk. By buying a fund with a certain risk rating, an investor is buying a fund that displays a specific level of a risk at a specific point in time, and one that is not reflective of the level of risk that a fund manager might take in future. This might make it unsuitable for that investor overall. The idea that one can control risk through one’s exposure to equities alone is patent nonsense, as evidenced by ‘Cautious Managed’ funds, where the dispersion of three-year risk ranges from sub-gilt volatility (4) to stockmarket-like volatility (14+). The point is that investors need to look under the bonnet of a fund’s objectives and targets.
Whereas risk-rated funds view risk, and all its influences, as static, fluidity is the hallmark of the risk-targeted fund. The ‘target’ offers an explicit measure of the risk that the fund manager is prepared to take. This does not guarantee that capital cannot be lost, but it does commit the fund manager to working within certain parameters. For this reason, risk-targeted funds will assume a greater importance over the next 10 years or so.