Defining the absolute return sector is no easy feat. Our belief is that it is one in which fund managers strive to generate a positive return in all market conditions with a low correlation to stock and bond market returns, whilst also displaying minimal volatility. Absolute return funds tend to be unconstrained by traditional benchmarks, instead often aiming for ‘cash plus’ returns. As a result there are a wide variety of strategies employed within the sector, including multi-asset funds, long/short equity and bond funds, and black box, or computer program/algorithm based, strategies. Their increased flexibility means that funds are able to invest in a wider variety of asset classes, often making heavy use of derivatives in an attempt to reduce their correlation to traditional markets when potential threats to their performance are identified.

Absolute return funds can have a role to play in portfolios where it is appropriate by broadening the sources of investment returns and improving the risk-adjusted return. Portfolio volatility can also be reduced and thereby potentially limiting losses in falling markets.

The relevance of the absolute return sector to the private client world stems from the following question: “In the modern investment environment is the traditional private client portfolio model still relevant to generate low volatility returns?” Therefore, to earn their space in a portfolio and to justify their (usually not inconsiderable) fees, absolute return funds must demonstrate a low correlation to this long-standing model, by doing something different. For example, due to the size of some funds, they have access to and the ability to invest in certain issuances of securities and specialised investment products that individuals, as well as many professional investors, cannot.

As is historically evident, the correlation between traditional asset classes increases in times of market stress, therefore the fundamental challenge of achieving absolute returns if assets are never truly uncorrelated is during these periods. An example of the sector’s mixed fortunes was in 2020 with the pandemic freezing global economies and uncertainty increasing sharply, causing markets to fall around the world. Only 1 in 4 absolute return funds generated a positive performance in the first quarter of 2020, and only 2 in 3 created a positive return over the year March 2020 to March 2021. This led the Investment Association’s Target Absolute Return (TAR) sector to record its third consecutive year of outflow with £12.6bn being withdrawn.

As with any sector, there will always be a wide range in performance between funds, accentuated by the diversity of strategies within the sector. At the end of the day selecting a fund for investment will come down to your choice of trusted fund manager, although it also helps if you can understand the often complicated strategy employed; as, in our view, if you do not understand something then you should not be investing in it. Hence, as sector specialist at JM Finn my current preferred investments tend to be those that have a disciplined investment process and transparent structure, as well as uniquely skilled managers.

Samantha Goodson, Assistant Investment Manager

Sam is a sector specialist for Absolute Return Funds, responsible for maintaining a preferred list of funds to assist our investment managers.

The value of securities and their income can fall as well as rise. Past performance should not be seen as an indication of future results. All views expressed are those of the author and should not be considered a recommendation or solicitation to buy or sell any products or securities.

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