Changes to investment fund risk and volatility management
There has been a strong move in the pensions market towards pension schemes providing fund options for members which focus on controlling investment risk and performance volatility as opposed to merely focusing solely on investment return. The return objective remains to provide returns over and above inflation over time while also reducing the volatility experienced by members on their journey to retirement.
As part of this change, the mandates in terms of expected returns has changed from comparisons with ‘industry league tables’ of traditional managed funds to specific returns objectives which are easily measured and easier to understand from a member’s point of view. For example, return objectives for the new range of funds available from the market are more likely to be expressed in terms of Cash + x% or Inflation +x% rather than achieving average managed fund returns.
In practice, we are beginning to see a move away from traditional managed funds with four main asset classes (equities, bonds, property and cash) to more diversified funds investing in a wider range of asset classes. Furthermore, the risk ratings associated with many investment managers’ funds are being made clearer.
As part of the move towards ‘long term return with controlled short term risk’ there has also been a move towards absolute return funds. There are many different strategies at work in those funds which focus on generating an absolute return regardless of the equity and bond market direction. Some of them may actually work contrary or opposite to other strategies which deliver in total a smoother investment journey.
Irish Life’s Innovative Fund Development
Irish Life runs a suite of investment funds which fall into the above outlined arena.
Our Multi Asset Portfolios (MAPS) represent Irish Life’s best thinking with regard to providing access to inflation beating investment strategies while also addressing volatility and drawdown.
Multi Asset Portfolios have been designed to deliver long term growth while managing volatility and reducing the potential for extreme falls in member fund values at times of stress in the market. These are not traditional managed funds but are a range of portfolios designed to deliver to specific risk/return targets that are a blend of assets classes, investment styles and fund managers.
The return and volatility range of each fund is set out below:
| Annual Return Objective | Volatility Range | |
|---|---|---|
| Multi Asset Portfolio-Growth (5) | Cash plus 6% | 8-12% |
| Multi Asset Portfolio-Balanced (4) | Cash plus 5% | 6-10% |
| Multi Asset Portfolio-Cautious (3) | Cash plus 3% | 3-7% |
Source: Irish Life Investment Managers (ILIM)
Key Points to note:
• The amount invested in each asset class is chosen on the basis of creating the optimal blend of investments to deliver the expected return by taking on the lowest levels of investment risk, in line with each portfolio’s investment objective. To achieve the objectives the asset mixes are dynamic in nature and are reviewed on an on-going basis.
• Irish Life recognizes that indexation is the most cost effective and appropriate way of gaining exposure to most asset classes and as such MAPS have been constructed with indexation at their core. We believe that the higher fees normally associated with active equity and bond managers is better spent on absolute return strategies which manage volatility and where there is evidence of real value added.
• While the range of asset classes and investment strategies available on an indexed/passive basis continues to grow, we do see that additional diversification benefits can be delivered by investing in actively managed absolute return strategies (manager skill). Within MAPS absolute return strategies are managed by external fund management houses.
• A key differentiator of the Multi Asset Portfolios is the objective process to switch between developed world equities and cash in periods of severe market stress – the Dynamic Share to Cash model. The model was developed by Irish Life to help pension fund members avoid the large value drawdowns in periods of extreme stress, like 2008, when the correlation of all growth assets greatly increases the only real safe haven is cash.
• The assets in these funds may be used for the purposes of securities lending in order to earn an additional return for the fund. While securities lending increases the level of risk within the fund it also provides an opportunity to increase the investment return.
To find out more about the MAPS funds visit the Investment Centre for monthly factsheets.
