The Investment Association Target Return sector is a real mixed bag. The IA defines funds in the sector as funds managed with the aim of delivering positive returns in any market conditions, but where returns are not guaranteed. The funds in the sector must clearly state the timeframe over which they aim to meet their stated objective; this must not be longer than three years. At first sight this may seem to be a fairly tight set of criteria but in practice it covers a wide range of funds with very different risk return profiles. Over the last three years, the best performing fund has virtually doubled while the worst performing fund has lost 10 per cent. The maximum drawdowns across the sector have ranged between -0.5 per cent and a sizeable -17 per cent. Fund volatilities have ranged from levels typically seen in near cash funds to funds that have been more volatile than equities. Few other IA sectors have such a diverse range of fund strategies and return profiles.

Yet there are funds sitting in other IA sectors that are designed to provide investors with targeted returns and aim to provide investors with consistent positive returns. In contrast to the IA classification, Square Mile prefers to categorise funds based around the outcome that investors are likely to receive. Therefore our Capital Preservation outcome grouping would include many of the lower risk funds held within the IA Target Return sector as well as some lower risk bond strategies such as the AXA Short Duration Credit fund and the Monument Bond fund. We don't believe that it is helpful for some of the more racy funds in the IA sector to be grouped alongside the more conservative strategies in the absolute return space.

Funds managed with an absolute return objective can be sub categorised by the asset class focus whether a fixed income, equity or multi-asset approach. Some of the more complex arbitrage strategies do not feature in the IA sector although such strategies are available in Ucits regulated funds based offshore. Hedge fund strategies such as distressed approaches tend to be too illiquid to function in the daily traded open-ended fund space.

One of the most complex multi-asset strategies featured in Square Mile's Academy of Funds is the Standard Life Investments GARS fund. The fund's process revolves around accessing the best ideas from the various SLI teams, identifying an approach to exploit the opportunity and to construct a diverse portfolio of these ideas in a complementary manner thereby maximising any diversification benefits. The managers tend to favour illustrating the ideas in the portfolio via derivatives since these instruments offer the fund the liquidity and scalability that the managers desire. The resulting portfolio is complex and contains a wide spread of risks which are designed to be offsetting in nature. Alternatively, advisers may choose to select a fund following a slightly more traditional multi-asset approach such as those favoured by the Jupiter Strategic Reserve or Newton Real Return funds. These funds are all focused on generating steady returns for investors with muted drawdown episodes.

Within the sector there are also equity-focused strategies, which by default must contain an element of hedging to moderate volatile equity risks. These types of strategies can be broadly sub-categorised as either long/short equity funds and equity market neutral funds. The former looks to capture some element of market beta as well as alpha, while the latter concentrates solely on generating alpha. Investors favouring long/short strategies are essentially giving the manager discretion of when to entertain market risk and thereby generate attractive risk-adjusted returns. However, many of these types of strategies charge performance-based fees, which we consider inappropriate for what are often beta related gains. We much prefer the market neutral approach, since these strategies act as excellent diversifiers within a wider portfolio. We favour the Kames UK Equity Absolute Return and the Schroder European Absolute Target funds in this space and both funds have the bonus of being accessible in the UK without a performance fee.