Investors must rethink how they manage risk

This article is part of
Sourcing Income – April 2016

Investors are increasingly considering the risk they are willing to run and are more likely to sacrifice some upside in return for better downside protection.

By rethinking the function of their portfolio and what they want it to do, investors are considering the fluctuations of returns versus the reliability of income and making a reasonable and considered trade-off between these two principles.

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To achieve this aim, investors could consider more flexible approaches – for example, turning the volatility of assets to their advantage by using things such as option overlay strategies that are intended to deliver stable, reliable sources of income or reducing interest rate sensitivity through investment in bank loans.

However, it will not simply be a case of granting managers more discretion to be active.

Risk needs to be managed in different ways; being less reliant on single measures such as tracking error or value-at-risk in favour of using several judgements and scenario analysis.

Most importantly, investors need to have a view on capital impairment and relate that to their windows of tolerance.

Hugh Prendergast is head of strategic product and marketing at Pioneer Investments