Risky business

Pension fund investors that need long-term equity-like returns to achieve their retirement objectives should not expect to receive this from multi-asset funds running at 5 per cent annualised volatility.

They receive no benefit from this low-risk approach in the long term; they are simply more likely to miss their retirement target.

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By contrast, multi-asset funds that have taken more risk – using fewer or no derivatives and relying more on broad diversification and gradual asset allocation shifts rather than drastic lurches – have performed much better in the past few years. Over the long term there is good reason to believe that these higher-risk funds should deliver higher returns and deliver value for pension fund investors.

The second reason why the right sort of multi-asset funds still have a role to play for long-term investors is diversification itself. Diversification is not simply mixing bonds and equities.

The mix between bonds and equities is a good way of achieving a certain level of risk, but diversification is much more than this, involving more arcane equity markets (such as China and other emerging markets) and alternatives too.

This is something that investors and advisers can do themselves, using single asset class funds to create a static but diversified portfolio. But with hundreds of markets available to invest in, this is a complex task. As any multi-asset fund manager will tell you, researching and monitoring all these markets is a time-consuming task often carried out by large teams of specialists.

Getting the right blend of markets, without over-concentrating or filling the portfolio with highly correlated positions, is a detailed task.

Tried and tested

Any changes to the portfolio need to be modelled and tested. Risk levels and market movements need to be monitored daily. How much do you or your clients know about the Asian property market, the main Chinese A-shares indices or which is the best commodity index to follow?

The chances are, not a great deal, which makes choosing the right components to build a properly diversified multi-asset portfolio rather tricky, even if you are not planning to change it much or monitor each of the moving parts.

A very good level of diversification can be achieved by building a portfolio made up of a carefully selected basket of passive index-tracking funds – but that still involves a portfolio of 15 or more funds covering almost 100 capital markets.