One of the ways he says funds in this sector can achieve a positive return is to always have exposure to equities, alongside any of the more esoteric assets that are owned in order to manage volatility.
Fitzgerald says: “One of the mistakes I think [that] has been made in the sector in recent years is that, if a manager doesn’t hit their return targets they decide the right thing to do is to take less risk, as they become determined to not lose money, but that caution means they also don’t make a return.”
He says the role absolute return funds should have in the market is to act as a way for clients to gain access to hedge fund type strategies.
Traditional hedge funds often have a minimum investment limit which would be out of the reach of an advised client, but also invest in less liquid assets, and so are not suitable to offer daily dealing, which tends to be a requirement for the typical advised client.
Fitzgerald says: “Of course we put some hedges [against risk] in the fund, but you can’t hedge against every risk, or you won’t make money.”
An example of the decline in client interest in absolute return strategies is that Fitzgerald and his team once managed just under £10bn across their various products, a total that has shrunk by 50 per cent.
Going short
Charles Hovenden comes from a hedge fund background, but is very sceptical about the value of absolute return funds in portfolios.
The senior investment manager at Square Mile says the founding principle of the sector is "that it can deliver positive returns in all market conditions. That is impossible in the real world".
"In the first quarter of 2020, when volatility was very high, one of the best known funds in the sector lost 20 per cent. The thing is, that fund was very net long in terms of its equity exposure, and I would ask, if you are that significantly exposed to equity market risk, how can it be an absolute return strategy, which aims to deliver a return in all market conditions, be in a position where a drop in equity markets means the fund loses money?"
He says this is the fundamental contradiction at the heart of traditional absolute return strategies: if they do not have significant equity exposure, then it is hard to achieve attractive returns, even if the volatility is high, while if you have little exposure to equities, you get low volatility but low returns.
