The vast majority of the time funds within a sector have very similar objectives.
In the IMA UK Equity Income sector, for example, the vast majority of funds attempt to beat the FTSE All Share while generating an above-average yield of at least 110 per cent of the index's.
However, there are some funds with far more specific objectives, serving clients with particular needs.
While they may well fall behind their sector average and even their comparative index, their client base is unlikely to be put out as long as they are doing what they set out to do.
This issue is particularly relevant to dividend-paying funds, with many viewing total return as secondary to their fund objective.
Here are four “underperformers” that may be of interest to investors with a specific goal in mind.
Insight Equity Income Booster
On first glance, Tim Rees's fund is hardly a standout candidate. FE data shows that Insight Equity Income Booster has underperformed its IMA UK Equity Income sector and the FTSE All Share over one and three years and since the fund’s launch in 2010.
However, Insight clearly states that its intention is to generate a high level of income, which it distributes out to its clients monthly.
Capital growth, which has been the sole reason for the underperformance, is only seen by Rees as a bonus, as his fund is designed for people wishing to live off their income on a monthly basis.
Rees uses call options – a type of derivative that allows the owner of a stock to receive a fee for agreeing to sell it at a higher price in the future – to enhance the yield of his fund.
This limits the potential for capital growth, but has enabled Insight Equity Income Booster to be the highest yielding fund in the sector at present, at 8.3 per cent.
An investment of £10,000 at launch just under five years ago would have paid out £5,476 in dividends already today – again, the highest figure in the UK Equity Income sector.
Such an investment would see investors pocket just under £100 at the end of every month.
Income earned from £10,000 investment since 30 Mar 2009
Source: FE Analytics
Rees invests almost exclusively in large caps with a strong dividend culture, giving his fund another layer of safety.
Top-10 positions include blue chips such as Vodafone, Shell and GlaxoSmithKline.
The fund has ongoing charges of 1.7 per cent.
Fidelity Enhanced Income
Michael Clark’s £224m Fidelity Enhanced Income fund is a favourite with head of FE Research Rob Gleeson, who says that criticisms of it from a sector performance point of view miss the point of investing in it in the first place.
“The fund is bottom quartile because its capital growth hasn’t been very good – but this isn’t what it’s trying to achieve,” he explained.
Performance of fund, sector and benchmark since launch
Source: FE Analytics
“It’s looking to generate a high and sustainable yield and that’s exactly what it has done. The clients it is serving tend to be more cautious than those invested in the average equity income fund, and so its defensive stance has been completely necessary.”
Fidelity Enhanced Income was launched in February 2009 – a time when the FTSE was close to its very bottom following the financial crisis.
Markets have rebounded strongly since then, and the large cap, defensive focus of Clark has seen the fund underperform from a total return point of view.
This has been compounded by the impact of call options on capital growth.
However, it has been one of the least volatile funds in the sector over the period, coping particularly well during the market sell-off in 2011.
Fidelity Enhanced Income has ongoing charges of 1.7 per cent and pays dividends out quarterly. It is currently yielding 4.81 per cent.
The firm launched the Global Enhanced Income fund for Daniel Roberts at the back end of last year.
Fidelity Strategic Bond
Strategic bond funds with a high degree of exposure to high yield or "junk" bonds have been standout performers over the last three years or so.
This part of the market, which has a high correlation to equities, has seen yields continue to compress, with higher quality corporates relatively meagre by comparison.
Some high-profile multi-billion pound bond portfolios such as FE Alpha Manager Ian Spreadbury’s Fidelity Strategic Bond fund have remained underweight high yield and have suffered from a relative point of view as a result.
FE data shows the £1.4bn fund is third quartile in its IMA Strategic Corporate Bond sector over one and five years and second quartile over three.
Performance of fund and sector over 5yrs
Source: FE Analytics
However, Gleeson says this average performance shouldn’t worry investors who know what they’re buying.
“It’s designed to produce above-average income and protect investors from the downside, and so it has an emphasis on quality,” Gleeson said.
“You’re not going to see it jumping into high yield.”
Fidelity Strategic Income currently has 30 per cent in high yield, which is below average for its sector. Spreadbury says he has limited the fund’s high yield exposure to 50 per cent to ensure that it isn’t too correlated to equities.
In an article next week, FE Trustnet will examine the issue of picking the right bond fund from a risk/return point of view.
Fidelity Strategic Bond has ongoing charges of 1.21 per cent.
CF Ruffer Total Return
FE Alpha Manager Steve Russell’s CF Ruffer Total Return fund sits in the IMA Mixed Investment 20%-60% Shares sector, but for all intents and purposes is an absolute return fund, as its objective suggests: “The fund aims to achieve low volatility and positive returns from an actively managed portfolio of different asset classes.”
The team has explained time and again that protecting investors from permanent losses is its absolute priority, which should enable it to produce strong positive returns over the long-term.
The fund’s current defensive stance, which includes a hefty allocation to inflation-linked bonds and gold, saw the fund underperform its peer group in 2012 in particular, and it is bottom quartile over a cumulative period over three- and five-year periods.
However, the majority of investors in the £2.8bn fund will be pleased to hear that it has managed a positive return in every year since 2006 – something that not a single fund in the IMA Targeted Absolute Return sector has managed.
Although cumulative returns of 46.73 per cent over five years are below par compared with the IMA Mixed Investment sector average, they stand up very well versus the average absolute return fund, which has posted 24.85 per cent over the same period.
CF Ruffer Total Return has ongoing charges of 1.53 per cent.
JM Finn Global Opportunities
“This is another fund that sometimes looks very poor compared with its sector, but for a different reason,” said Gleeson.
“This is a high beta fund that will always have a big portion in emerging markets. It’s a very aggressive fund for a long-term investor and so as long as you understand what it does, it shouldn’t be a big surprise when at times it is bottom-quartile over certain periods.”
“More often than not when it does suffer a big bout of underperformance, it then rallies,” he added.
Manager Anthony Eaton’s aim is to benefit from growth in emerging markets from the transport and logistical nodes that serve global trade, and this is clearly stated in the fund’s objectives.
He has significant exposure in emerging markets ranging from China to Nigeria, including a hefty portion in mining and energy.
FE data shows JM Finn Global Opps is ahead of its IMA Global sector average and benchmark since its launch in January 2004, with returns of almost 160 per cent, but it has been a bumpy ride along the way.
Performance of fund vs sector and index since launch
Source: FE Analytics
The fund suffered badly in 2008, which Gleeson says is inevitable given its high beta [sensitivity to the market].
More recently, the weakness in emerging markets has seen it fall behind its sector over one and three years.
“Despite the fund’s aggressive approach and meagre risk management, its simplicity is appealing as it means investors have a clear understanding of what the manager is trying to achieve, both in terms of investment and returns,” Gleeson finished.
The fund has ongoing charges of 1.83 per cent.
