Friday 3 June 2011

Should I use absolute return funds?

Question
I am recently retired at 60 and my wife is not currently working but may do so part-time. We have enough cash for forecast spending in 2011-12 and for emergencies. We have about £100k in unit trusts put aside for the longer term (10 years plus) in a mixture of 30% gilt/linker funds and 70% equity (global/UK trackers plus active EM, resources and property funds).

We have another £100k to invest over 2-8 year timescale for university costs for the children and moving to a better house. I am thinking about putting this money into a mix of Trojan O, Ruffer Total Return O and Newton Real Return (and possibly Absolute Insight Ap) funds. Does this seem reasonable or unnecessarily risky over this time period?Answer
Your existing investment strategy looks very sound, so well done. If you haven't done so already I'd focus on getting the investments within ISAs for both of you to ensure a tax efficient income and avoid that income counting towards the limit for higher age-related income tax allowances (£24,000 for 2011/12 tax year - may or may not be a problem depending on how much pension income you both receive).

As for your new investments, a focus on absolute return does, in theory, make sense. The reason I say 'in theory' is that while funds intend to deliver consistently attractive, positive returns regardless of market conditions, in practice this is rare. Absolute return managers still have to exercise judgement on which direction markets (whether it be stock markets, commodities, currency or interest rates) are headed and, being human, they won't always be right (some will be wrong more often than others).

Looking at your suggested funds in turn:

Troy Trojan - invests in a mix of shares, fixed interest, cash and gold, but it doesn't 'short' investments, i.e. place bets on falling prices. Performance has been good the last couple of years (when most assets have risen in price) and flat the two years prior (when markets were in turmoil), so respectable overall. However, it's currently closed to new investors.

Ruffer Total Return - a similar approach to the Troy fund (mix of assets and no 'shorting') and it has delivered consistently positive returns since launch 10 years ago, albeit sometimes falling well short of the 10% annual target. At £2 billion in size the fund could prove unwieldy, but as the managers focus on larger companies and securities it doesn't seem to have been a problem to date.

Newton Real Return - another mixed asset fund, although it can use options for downside protection. It has delivered positive returns, but did struggle during market falls in late 2008.

Insight Absolute - invests in a range of Insight's other absolute return funds. This gives access to a number of different absolute return strategies (e.g. mixed asset, shorting and currency bets). Returns were minimal (albeit positive) during the credit crunch but have been ok over the last couple of years (not difficult!).

I don't think any of these funds would be a bad choice, but bear in mind they could still lose you money. I'd be nervous about investing for less than five years and longer would be good (maybe I'm a pessimist, but I don't like to trust that absolute return managers will deliver year in year out). Perhaps also consider another fund that makes more extensive use of 'shorting', like Gartmore UK Absolute Return or Blackrock UK Absolute Alpha. Returns from the latter have been negligible the last 3 years, but this style of fund could come into its own if markets dive.

I would be tempted to keep some cash aside for the next few years in case the absolute return funds don't perform. Interest rates aren't great, but fixed rates over 1-5 years of between 3.5%-5% look reasonable given (in my opinion) the Bank of England Base Rate is likely to remain rooted at 0.5% for some time yet. If your wife is a non-taxpayer then holding savings in her name would avoid tax on any interest that doesn't fall above her personal income tax allowance.

Good luck whatever you decide and happy retriement.

P.S. If readers have view/suggestions re: absolute return funds please post them below.

Read this Q and A at http://www.candidmoney.com/questions/question491.aspx

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