Funds that protect against the downside significantly beat those that shoot the lights out during up markets, according to the latest FE Trustnet study.

While many of these defensive funds fell well short of their benchmark during rising markets – particularly in 2009 and 2010 – their ability to protect against the downside has more than compensated for this in the medium- and long-term. 

In the UK Equity Income sector, the average fund that managed top-quartile status in 2008 and 2011 has returned 15.2 per cent over five years.

By contrast, the average fund that was top-quartile during the QE-inspired bull run of 2009 and 2010 lost 5.62 per cent. This means that these funds not only fall short of the average downside winner, but also of their sector average. 

Performance of portfolios and sector over 5-yrs



Source: FE Analytics

All nine downside winners in the UK Equity Income sector have outperformed their sector average by at least 10 per cent over five years; by comparison, only one upside winner – Unicorn UK Income – managed to return more than the average UK Equity Income fund.

These downside winners include the likes of Invesco Perpetual Income, Invesco Perpetual UK Strategic Income and Trojan Income, which are all headed up by an FE Alpha Manager and have five FE crowns.

All three also significantly underperformed their sector in 2009. 

Performance of funds vs sector over 10-yrs

Name	5-yr returns (%)	10-yr returns (%)
Trojan Income	29.19	N/A
Invesco Perp UK Strategic Income	16.25	142.69
Natwest Equity Income	15.15	N/A
Threadneedle UK Equity Income	14.95	126.17
Invesco Perp High Income	14.91	181.47
SJP UK High Income	13.66	142.06
Invesco Perp Income	13.65	175.52
Threadneedle UK Equity Alpha Income	11.28	N/A
Artemis Income	7.7	142.91
IMA UK Equity Income	-2.3	98.78

Source: FE Analytics

Those that were top quartile in 2009 and 2010 include the AXA Framlington UK Equity Income and Standard Life UK Equity Income Unconstrained portfolios, which are down 21.15 and 14.15 per cent respectively over five years. 

This trend extends to equity sectors outside of the UK as well; in IMA Asia Pacific ex Japan, for example, the average fund that managed top-quartile performance in 2008 and 2011 has returned 52.51 per cent over five years – around twice as much as the average top-quartile funds in both 2009 and 2010. 

Performance of portfolios and sector over 5-yrs



Source: FE Analytics

The average upside winner managed to beat the average Asia Pacific ex Japan portfolio, however. 

First State Asia Pacific and Newton Asian Income, which both unperformed their sector average in 2009, are among those in the list of downside winners.

There is a similar pattern in the Global Emerging Markets, Europe ex UK and global equity sectors as well.

With the threat of an all-out collapse of the euro still a real risk to equity markets, finding funds that have the ability to protect against the downside is likely to be a priority for short-, medium- and even long-term investors. 

Darius McDermott, managing director of Chelsea Financial, agrees.

"If volatility is on the same level as we’ve seen since the financial crisis, then you’re definitely going to want to be in those that protect against the downside," he said. 

"When a fund falls 20 per cent more than a rival, it’s very, very difficult for them to make that money back."

"There’s also the issue of psychology for an investor; the last few years have made everyone a little more cautious, so you’d rather get from A to B with less volatility and a lower drawdown." 

McDermott also points to the importance of protecting against the downside in other periods in history, including the dotcom crash back in the early 2000s.