As the trend for advisers outsourcing the individual asset allocation for clients and investing in multi-asset solutions has grown, so has the demand for funds that are managed to align to different risk levels. For many clients success is not just about the greatest return from the investment, it is about achieving the optimal return while also taking the level of risk that they can afford.
The closest that the conventional IMA sectors come to grouping together funds taking different levels of risk is in the three mixed investment fund sectors. The zero per cent to 35 per cent shares limits the equity exposure to 35 per cent and in which a minimum of 45 per cent must be held in investment grade fixed income and cash. The 20 per cent to 60 per cent shares limits the equity exposure to the levels stated and also has a minimum requirement of 30 per cent fixed income and cash.
At the higher end is the mixed investment 40 per cent to 85 per cent sector with no minimum fixed income or cash requirement. Even although these are broad bands, they constrain investment managers to operate within asset class limits. Another factor that makes IMA sectors difficult to use for risk-targeted funds is that their sectors contain funds managed to a range of different objectives and for which risk management is not necessarily the prime focus. Therefore, although the IMA sectors succeed in grouping together funds with broadly similar asset allocation, comparison remains difficult due to the range of different objectives.
So how can the adviser select a fund if the conventional IMA sectors do not provide the answer?
The first step is to identify how the output from the risk profile process used by the adviser aligns or maps into the various risk-targeted funds available. As part of their investment process, advisers may well use one of the risk-profile questionnaires whose output, when considered along with factors such as capacity for loss will produce an indication of the appropriate risk level for the client. The risk-profile tools such as Distribution Technology’s Dynamic Planner or Finametrica provide the link between the attitude to risk obtained through their questionnaire and the risk level of funds whose risk they have reviewed.
However, it is important to note that a large number of funds with a risk rating are not actively risk-managed. The rating companies assess the asset allocation of the funds at a point in time and, based on that analysis, the funds are given a risk rating. In many cases the funds are not being actively managed for risk, and their subsequent risk rating comes entirely from the snapshot of their asset allocation. It is not unusual to see funds such as strategic bond funds sitting in a risk category alongside risk-targeted multi-asset funds – similar risk levels at a point in time but with very different strategies and approach to risk management.
For the adviser seeking a risk-targeted fund to form most, or all of a client’s portfolio, the analysis has to be much deeper than a simple selection from a list of funds that have been allocated a similar risk rating.
