Fidelity Special Values, Old Mutual Global Equity Absolute Return and Church House Tenax Absolute Return Strategies are three complementary investments that could combine to make a lower risk portfolio, according to FundCalibre research analyst Tony Yousefian.
While picking a fund or a trust in which to invest is one thing, pairing it with other investments in order to build a portfolio that suits investors’ various appetites for risk is another issue.
Given the recent comeback of volatility, Yousefian suggests a portfolio with a 25 per cent weighting to Fidelity Special Values trust, a 25 per cent weighting to Old Mutual Global Equity Absolute Return and a 50 per cent to SVS Church House Tenax Absolute Return Strategies could be a good starting point for those investors looking to build a lower risk portfolio.
In the following article, we take a closer look at Yousefian’s investment combination by building the portfolio in FE Analytics and examining various metrics including its portfolio risk score, the weighted risk score of holdings and the diversification benefit.
The furthest back we can take the portfolio is June 2009, since this is when the Old Mutual fund launched. Over this time, it has delivered a gain of 99.88 per cent, beating the total return of 83.99 per cent seen in the FE AFI Cautious index.
Performance of portfolio since June 2009
Source: FE Analytics
Yousefian’s first choice for this lower risk combination is the Fidelity Special Values investment trust, which exposure provides the “all-important growth potential”. This is the riskiest element of the portfolio and has the role of driving returns.
“The manager invests in UK companies and, notwithstanding the short-term uncertainty of the Brexit negotiations, the UK stock market is now offering exceptional value for investors who are prepared to take a long-term view,” the analyst added.
Indeed, although Alex Wright’s Fidelity Special Values has the highest FE Risk Score of the three funds, the trust has also had an impressive performance over five years, more than doubling the IT UK All Companies’ return by making 101.52 per cent.
Yousefian’s second fund pick for a lower risk portfolio is Old Mutual Global Equity Absolute Return, which he believes will provide investment opportunities on a global basis but with much reduced volatility, due to the manager’s ability to go long and short stocks.
His third choice, the multi-asset Church House Tenax Absolute Return Strategies fund, has a sharp focus on risk and “an average volatility of just 27 per cent of that of the FTSE All Share index”.
Our data shows the fund has an FE Risk Score – which measures past volatility relative to the FTSE 100 – is just 14, the lowest of the three funds.
As the following chart shows, Fidelity Special Values has made by far the highest return out of the three funds in the portfolio: since the portfolio’s inception, it’s up 252.19 per cent. However, this has come with annualised volatility of 14.70 per cent – also the highest of the three by a significant margin.
Given that the Old Mutual and Church House funds reside in the IA Targeted Absolute Return sector, their role has been to dampen the volatility of the portfolio. FE Analytics shows that Old Mutual Global Equity Absolute Return’s annualised volatility for the period in question has been 4.65 per cent while SVS Church House Tenax Absolute Return Strategies’ stands at 3.18 per cent
Performance of funds and portfolio since June 2009
Source: FE Analytics
These combine to result in annualised volatility of 5.54 per cent of the whole portfolio and a Sharpe ratio of 0.96 – which is higher than the constituent funds’.
The overall portfolio also has a maximum drawdown – which indicates the loss that would have been incurred if an investor bought and sold at the worst possible times – of 5.79 per cent. Fidelity Special Values’ maximum drawdown has been 19.83 per cent, but the other two funds have lost around 5 per cent in their worst periods.
Comparing the portfolio with the FE AFI Cautious index, Yousefian’s three funds have outperformed it for maximum drawdown, annualised volatility, maximum gain, maximum loss, the number of positive months and risk-adjusted returns as measured by the Sharpe, Sortino and Treynor ratios.
Looking at the volatility of Yousefian’s suggested portfolio compared to the FE AFI Cautious index – which is a benchmark of funds suitable for a person in the late 50s – shows FundCalibre’s lower risk portfolio performance line has tended to give investors a smoother ride since the portfolio started.
However, it must be noted that despite February’s unexpected recent surge in volatility and recent sharp movements in the VIX, markets have enjoyed a long period of low activity.
FundCalibre’s lower risk portfolio’s volatility
Source: FE Analytics
One of the metrics FE uses to assess the riskiness of the portfolio as a whole is the Portfolio Risk Score, a rating that offers a relative rating of risk and works similarly to the FE Risk Scores.
This rating is the result of calculating the mean of the current holdings’ risk scores and it is affected by the make-up of funds within the portfolio, taking the funds’ different areas or asset classes into account and reflecting the diversification and risk rating of the portfolio as a whole. Thus, the lower the Portfolio Risk Score, the lower the risk in a portfolio.
Yousefian’s combination of 25 per cent Fidelity Special Values, 50 per cent SVS Church House Tenax Absolute Return Strategies and 25 per cent Old Mutual Global Equity Absolute Return results in a current portfolio risk score of 36.
The next metric we’ve drawn on is the weighted risk score of holdings, which the FE defines as “a calculated weighted Risk Score proportionate to the percentage weighting of each of the current holdings in the portfolio, summed together”. The Weighted Risk Score of a portfolio using Yousefian’s combination is 47.
The final metric we have considered is the diversification benefit. This can’t be lower than 0 per cent, has a maximum of 100 per cent and is the percentage difference between the values of the current portfolio risk score and the weighted risk score of holdings.
Although a high level of diversification doesn’t indicate if the portfolio is good or bad, the higher the diversification number, the more spread the risk will be and the higher the chances of avoiding large drawdown events.
In the portfolio at hand, the diversification benefit is ‘medium’ and makes a total of 23 per cent.