Just How Risky are Risk Targeted Funds?

Risk targeted funds are attracting considerable attention in the UK marketplace, but risk is a slippery term meaning different things to different investors

Christopher J. Traulsen, CFA 27 June, 2014 | 11:41AM
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Risk targeted funds are attracting considerable attention in the UK marketplace. It’s not hard to see why this is the case.  Investors and those who advise them are sure to find appeal in the ostensible certainty of being able to quantify and thereby contain their risk. Therein lies the problem, however, and unless due care is taken, it’s one that could have significant negative ramifications for investors, advisers and asset managers down the road.

Risk is a slippery term. Investment professionals often take as a measure of risk the volatility of returns as expressed by standard deviation. They might also express it as the risk of gains forgone, or of erosion of capital due to low returns in an inflationary environment, the risk of not meeting a specific investment goal, etc.

Thus, when a fund bills itself as risk-targeted, the first question anyone should ask is: what risk? In many cases, risk is defined by such funds within absolute volatility bands, e.g. Santander Atlas Portfolio targets 5.5% volatility with lower and upper bands of 4.25% and 6.75%, respectively. This is not an uncommon approach. Another approach might target a per cent of the volatility of a given benchmark, as Rathbones does.

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About Author

Christopher J. Traulsen, CFA  is director of fund research, Europe and Asia, Morningstar.