Sponsor’s position paper by Brendan Walsh, Aviva Investors
Absolute return multi-strategy and multi-asset funds invest across a diverse range of asset classes, including equities, fixed income, property and alternatives such as commodities.
By spreading their risk, both types of fund seek to offer investors more attractive risk-adjusted returns than are available by investing in single asset classes alone. Although they differ in important respects, we believe they should be seen as complementary strategies with both having a role to play in meeting investors’ needs.
The managers of both multi-asset and multi-strategy funds take a view on how financial markets are likely to perform and allocate investors’ money accordingly. Multi-asset funds achieve this goal by varying the mix of asset classes in which they invest, raising exposure to one asset class, such as US equities, at the expense of another, for example, US treasuries. Multi-strategy funds are a natural evolution from multi-asset funds. However, while the managers of these funds also take a view on where the world is going, they focus on identifying the investment ideas that will benefit best from their forecasts. They are inevitably more complex than multi-asset funds but they also offer important advantages.
By definition, absolute return multi-strategy funds deploy multiple interactive investment strategiesacross and within asset classes, and in order to do this they often use financial instruments that are inaccessible to managers of multi-asset funds. The ability to hold both long and short positions means multi-strategy funds can perform well in all kinds of market conditions. Furthermore, returns tend to be relatively uncorrelated to equities, bonds and other traditional asset classes. This is an important factor given that in recent years swings in asset prices have been far more correlated than was previously the case. Historically, rising equity prices, for example, were associated with falling bond prices and vice versa. Stronger economic growth would boost corporate earnings and hence share prices, whilst causing interest rates to rise, undermining the appeal of bonds. Thus, the risk of investing in equities could be offset to some degree by allocating part of the fund to bonds.
A new world order?
However, the aggressive monetary policy adopted by central banks around the world in response to the global financial crisis of 2008 has boosted asset prices simultaneously in recent years. Equity and bond prices have soared in tandem, while commercial property has also risen strongly in many markets. Thus, investing in a mix of assets will reduce a fund’s risk by less than previously. Consequently, the traditional approach of targeting equities for capital growth, bonds for income and as a safe haven in times of trouble, and alternatives for extra diversification, no longer appears as valid. Furthermore, it is difficult to rely on equities for long-term capital growth given that valuations look expensive on most long-term measures. Meanwhile, the income generated by bonds is very low. There are also doubts as to the amount of protection bonds will afford in the event of an equity market downturn given that prices are already so high.
A fresh approach
Absolute return multi-strategy funds offer a solution to investors concerned about the growing correlation of asset classes. They also offer hope to those wanting to grow their capital or generate income in a world of low yields.
These funds look to achieve their targets by combining a diverse range of strategies with different drivers of performance. The Aviva Investors Multi-Strategy range of funds is very flexible. They are not constrained by a benchmark, are not wholly dependent on ideas that are linked to the economic cycle and they can deploy tools that exploit falling and volatile markets to generate positive returns for investors. All of these factors underpin our confidence that our multi-strategy funds can meet their When constructing funds we assess how much we expect each individual strategy will add to the total return and its impact on overall risk. We also assess the anticipated ease of exiting the position and whether it will be of benefit should the fund grow substantially. Derivatives are often employed in order to be able to alter asset exposures quickly, especially in illiquid markets, and manage risk efficiently. Due to the fact they usually employ leverage, they can also allow managers to get more exposure to
the underlying asset than is available by investing directly in the asset itself.
The nuts and bolts of multi-strategy funds
Markets react quickly to events, often in an illogical manner. The fear that the market herd will thunder away into the distance leads many investors to panic. Sentiment can thus shift suddenly and sharply. However, this creates opportunities for patient investors who are willing to take a longer-term view.
In our multi-strategy funds, we ignore short-term, headline-grabbing developments and focus instead on spotting mispriced investments with attractive risk-adjusted prospective returns over a three-year investment horizon. For example, one strategy is to go long of the Indian rupee against the euro. We expected this strategy to be profitable should structural reforms boost the Indian economy by more than the market anticipated, or were euro zone monetary policy to be looser than the market expected. In January 2015, the European Central Bank did indeed ease monetary policy by more than expected and the euro fell sharply as a result.
The way the strategies in a multi-strategy fund are expected to interact across a range of market conditions is crucial to managing a fund’s risk exposure and delivering the performance investors expect. Our multi-strategy funds consist of three types of strategies: we call them ‘market’, ‘opportunistic’ and ‘risk-reducing’.
The first looks to generate returns when markets perform as we expect. This group of strategies essentially performs the role that equities have traditionally played in multi-asset funds. The second seeks to exploit opportunities where one asset appears mispriced relative to another. We look for these strategies to generate positive returns irrespective of how markets perform. This group can be thought of as playing the role of alternatives within a multi-asset fund. Their returns have in the past been relatively uncorrelated with those of equities and fixed income. The last group is designed to cushion performance when markets behave unexpectedly. It can be thought of as playing a similar role to fixed income in a multi-asset fund, providing protection against market turbulence.
We aim to combine these strategies in such a way that we can deliver equity-like returns for less than half the risk of equities. Strategies can be added or removed from the funds to refine risk exposures and ensure the fund is appropriately positioned as the outlook for economies and markets changes.
All of these factors – diverse and interactive strategies, flexibility and the use of strategies that benefit from falling markets – give us confidence that our multi-strategy funds can be successful in their pursuit of specific targets – whether it be capital appreciation or consistent, sustainable income – for today’s investor.
Brendan Walsh is co-fund manager of the AIMS Target Return and Target Income Funds at Aviva Investors
