The circumstances of a low growth, low interest rate environment, combined with market volatility and macroeconomic uncertainty, has seen a resurgence in the popularity of absolute return funds.
In the past 18 months more investors have taken the plunge into these products in a bid to eke out some sort of return, as demonstrated by the fact the Investment Association’s (IA) Targeted Absolute Return sector was the bestselling group in 2015.
The trend has continued since, with the sector receiving the most net retail inflows for eight of the past 12 months to the end of April 2016. This has resulted in an increase in the group’s total funds under management from £48.6bn at the end of April 2015 to £63.1bn a year later, making it the third largest IA sector.
With the EU referendum result likely to continue unsettling the markets, the question is whether this surge in popularity will become a long-term trend.
Rory Maguire, managing director at Fundhouse, says: “We are seeing a lot more interest in absolute return, particularly as a bond replacement. But if equity markets start to go into bear territory, we will again see these funds become a lot more popular for the equity slice too.
“Clients should be careful to not lock in losses from other asset classes, after the market has corrected, by turning to absolute return funds at market troughs.”
As diversification remains an important factor for investors, Darius McDermott, managing director at FundCalibre, points out absolute return funds “should remain attractive [while] interest rates are so low – it makes it easy for them to compete and do well [while] cash is paying nothing”.
He adds: “With bond yields so low and the potential capital losses on bonds quite big if we get inflation and when interest rates finally do go up, people are crying out for an alternative to bonds for diversification within their portfolios. Absolute return funds do this.”
|Absolute Return: Too big to thrive?|
With the economic and market outlook uncertain, absolute return funds look to be a favourite for investors, but does this mean the vehicles will soft close if they get too big?
David Bint, multi-asset investment specialist at SLI, says: “All funds need to be acutely aware of what their ultimate capacity is. There are many different types of absolute return or multi-asset portfolios and some of them will have much larger capacities than others.
“One of the things we do with all our portfolios is to keep a tight and close eye on what we expect in terms of the liquidity, in terms of the ability to enact our investment views, and the rapidity with which we can do that and still get the views we want to have represented in the fund.
“But it doesn’t mean our portfolios, even if they are highly liquid, have infinite capacity and that would therefore be true of all other types of portfolio manager. Yes, we do need to be aware of what the ultimate capacity is. If they start to reach the point where that capacity is being reached then [the managers] would have to take steps to do something about it.”
Fundhouse managing director Rory Maguire adds: “A giant absolute return fund is arguably oxymoronic as a phrase, because these funds need the widest opportunity, investment flexibility and liquidity, which are often diametrically opposed to being large.”
That said, Adrian Lowcock, head of research at Axa Wealth, points out: “Because of the choice of tools available and the fact that some funds will access almost any market, it means that the fund sizes can grow much larger than your more traditional equity income fund strategies, for example. However, there is usually a point at which it is better to soft close a fund as size does eventually impact on performance. The trouble is our industry hasn’t always been very good at recognising this.”