The truth about the Absolute Return Fund
While absolute return funds have become an important feature on the SA investment landscape, there has been much confusion about what they offer – particularly during market downturns, such as was experienced last year. Notwithstanding this uncertainty Candice Paine, head of retail at Sanlam Investment Management (SIM), says this fund-type - which aims to soften the blow of short-term volatility while delivering inflation-beating returns over the longer term - has an extremely valuable role to play in the investment landscape. But a deeper investor understanding of the different types of funds within the absolute and targeted return fund space is also vital if they are going to meet expectations – and not disappoint.
Paine says that after an excellent run for five years, the global financial downturn saw the performance of these funds decline and many investors become slightly uneasy. “Stock market volatility has highlighted investor confusion about what absolute return funds do and what they should deliver. It is important for investors to fully understand that, while short-term volatility is lessened through diversification and derivative strategies, the absolute return fund operates according to a three- to five-year inflation-beating mandate. In other words, they should not expect consistent above-inflation returns all the time, but over a longer-term horizon they should achieve this objective.”
She said that SIM believes that much of the confusion about absolute return funds is a result of lumping an extremely diverse group of funds under one absolute return banner. “We believe that the criteria characterising absolute return funds should be tightened up by defining risk limits more precisely. A more meaningful division of the large, undifferentiated absolute return space into risk categories would make it easier for investors to truly understand the fund in which they are investing.”
So what is a true absolute return fund and which investor profile would they suit? Paine says the funds are best suited to a more conservative investor who wants to preserve wealth by avoiding short-term volatility but who has the ultimate goal of beating inflation by a pre-determined margin over rolling periods. “Absolute return funds are one of the most diversified portfolios in the investment industry, typically incorporating assets such as equities, cash, money market assets, inflation-linked bonds, preference shares, conventional bonds, property and international assets.”
She says that these funds aim to limit stock market volatility using derivative overlays and asset allocation strategies across all asset classes. “Absolute return funds are lumped together with targeted return funds but, in fact, they do not target returns, rather their objective is to outperform inflation by a certain percentage – and this is a target not a capital guarantee,” said Paine.
SIM’s retail absolute return vehicle, the SIM Inflation Plus Fund, is an example of a true absolute return fund. Paine says it aims to deliver positive real returns targeting consumer price inflation (CPI) plus 4% after fees over a rolling three-year period while at the same time protecting capital over one year. This is achieved through strategic and tactical asset allocation and derivative strategies when necessary.
“The SIM Inflation Plus fund has a “true-to-label” ethos: it offers low to medium volatility and inflation-plus returns. It is not a low equity balanced fund. Our absolute return investment philosophy is premised on the belief that, in the long run, equities offer the highest real return but also produce the greatest volatility of all the asset classes. Our core proposition is to balance this trade off in line with the fund’s objectives. We assess the risk/return characteristics of each asset class and modify exposure accordingly. We employ dynamic asset allocation, moving between asset classes and instruments depending on valuations.”
Paine concludes that over time this method of investing will produce a decent real return coupled with low volatility during the inevitable phases in which the equity market retreats - a perfect fit for the more risk-averse investor.
