Risk Targeted Funds - A look at the market

A significant growth area among multi asset funds over the last few years has been a group of solutions often referred to as risk targeted funds. Inflows of assets into risk targeted funds over the last five years has been substantial and the market is now estimated at over £35bn with around 250 different funds to choose from.

The definition of a risk targeted fund can vary but generally refers to any fund which targets a defined level of risk as its primary objective. This contrasts with traditional funds which generally have return as the principal focus. Risk targeted and risk profiled funds are often confused and wrongly thought of as being one and the same. Any fund can be risk profiled but not every fund will be risk targeted. A risk profiled funds is designated to fit within a particular risk profile based on current portfolio and performance characteristics which may change over time whereas a risk targeted fund is specifically designed to expose investors to a predefined level of risk, which is often directly aligned to a risk profile.

The vast majority of risk targeted funds define risk in terms of volatility. An example could be a fund which aims to provide capital growth whilst maintaining a volatility of between 8-10% over the longer term. These funds, which are typically invested across a diverse range of assets, usually come as part of a range, with each fund targeting a different risk level. This therefore provides a variety of investment options, which are managed to a consistent process, and which meet different client attitudes to risk.

Most funds have risk targets which are constructed on an expected or forecasted basis. This means they are based on best estimates of what it is believed will be experienced in the future and not simply on what has gone on in the past. The time frame used for building expectations is normally medium to longer term, generally between 7-15 years. A longer time frame is generally associated with a greater accuracy of forecasts. This forward looking, longer term approach allows managers to maintain investment flexibility and will not force them into lower risk assets during periods of heightened volatility, unlike funds which are governed by shorter term historical volatility measures.

The main driver of fund returns will be the longer term asset allocation and although most funds have the ability to take positions around this, in order to maximise returns and reduce risk, they are not designed to be immune to a market sell off. As with most funds the higher the exposure to risk assets the greater the potential capital loss, particularly over the short term.

In conclusion, whilst risk targeted funds are by no means the answer to every investment conundrum they should help provide investors with more certainty around the level of risk they are being exposed to and ensure this remains at a fairly consistent level over time. Their popularity means that there is no shortage of solutions catering for most budgets and preferred investment styles.