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Newsletter  15/12/2015

Increased exposure to Absolute Return Funds

With volatility creeping back into markets and many traditional asset classes looking expensive relative to history, investors are increasingly seeking refuge in “absolute return” funds. Cornelian Asset Managers' Associate Director Jonathan Horsfield explains what exactly is an absolute return fund.

Let’s start with a definition. The Investment Association (IA) use the classification “Targeted Absolute Return” for funds that aim to deliver positive returns over a specific timeframe - often a 3 year period. This differs from more traditional funds that typically aim to outperform an index. For example, a traditional UK equity fund could target outperformance of the FTSE100 Index. In this example, if the index has fallen 20% and the fund has only lost 15%, the manager has achieved their objective, despite losing money in absolute terms for their clients. In reality, the IA definition of absolute returns is so vague that most funds available today could feasibly classify themselves as an absolute return fund. I cannot think of any fund manager that does not target a positive return over three years and on this basis, the sector could house any number of funds and strategies, traditional or otherwise.

Given this, it is little surprise that the term absolute return encompasses all manner of strategies, many with very different risk and return objectives as well as underlying investments. This diversity can be overwhelming unless you know what you are looking for, and perhaps even more importantly, what you are looking to avoid.

When we look for absolute return funds, we really mean that we are looking for a strategy that is able to generate returns irrespective of whether traditional asset classes, such as equities and bonds, are performing well.

So why have we been increasing our exposure to absolute return funds over the course of the year? Well firstly, it’s worth pointing out that our definition differs to that of the IA. When we look for absolute return funds, we really mean that we are looking for a strategy that is able to generate returns irrespective of whether traditional asset classes, such as equities and bonds, are performing well. This year, we have seen valuations in equity and bond markets becoming increasingly expensive. High valuations today reduce future return expectations and increase downside risks. And hence, in this environment, it is prudent to increase exposure to strategies that can deliver returns uncorrelated to those of the traditional markets.When we look for absolute return funds, we really mean that we are looking for a strategy that is able to generate returns irrespective of whether traditional asset classes, such as equities and bonds, are performing well.

What do we think about when researching absolute return funds? Absolute return funds often invest in a wider and more complex range of instruments than traditional investment funds and hence more time and due-diligence is required to understand the strategies being employed, and most importantly, the risks that are involved. The funds that we favour typically employ “relative value” strategies which aim to benefit from the difference in returns between pairs or groups of assets, such as Shell vs BP, or developed equities vs emerging market equities or the US Dollar vs Japanese Yen and so on. These strategies often benefit from not having significant “market exposure” in that if Shell and BP both fall 40% there is no impact on the fund. But, if Shell falls more than BP then the fund receives the difference in performance between the two. These types of strategies tend to perform better in markets where dispersion of returns across individual assets are high. We also favour funds that employ “macro” strategies. Here managers attempt to interpret macro economic trends such as demographic changes or a country’s changing debt dynamics, and invest in strategies such as interest rates and currencies in an attempt to profit from them.

We apply strict criteria when researching this asset class and reject most funds that we look at on the basis that they do not meet our requirements. 

We apply strict criteria when researching this asset class and reject most funds that we look at on the basis that they do not meet our requirements. We focus particularly on liquidity, management track record, risk teams and processes, value for money, and ability to generate uncorrelated returns. The managers that we have added this year are the result of a significant amount of research and we are excited about the quality of the managers we have uncovered, the way in which they have performed and the way they have successfully helped to reduce the volatility of our clients’ portfolios in a difficult environment for investing.

Jonathan Horsfield
Associate Director

Marcus Brooks

Newsletter  19/10/2018

Balancing Investment Performance & Risk for the longer term

Marcus Brooks, Director and Head of Private Clients & Charities at Cornelian outlines the importance of diversification to deliver real returns over the longer term.

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Newsletter  19/10/2018

Keeping your Data Secure

In this article, Iain Hay, Manager Compliance & Risk at Cornelian highlights procedures for data protection and cyber security and offers the top ten tips to keep your own information safe.

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