By Henry Cobbe, CFA, Head of Copia Capital Management
Being different can be difficult.
We have spent the last few years asking advisers not to compare our Volatility Focus portfolios to competitors offering a more traditional asset-based approach. Not because the returns looked lower, but because the objectives and investment strategies are fundamentally different. A traditional approach targets an asset allocation. Our Volatility Focus approach targets a volatility budget.
Why hold a Volatility Focus portfolio?
We positioned our Volatility Focus portfolios for investors in the “Preservation” stage of the investment lifecycle, or for investors wanting some “insurance” alongside a traditional asset-based portfolios.
The objective for this range is to protect the pot from unexpected volatility. The volatility targeting approach is designed to mitigate downside risk as an “insurance” against tough market conditions.
In short, for times like these.
Asset-based or risk-based approach?
The bulk of multi-asset portfolios in the UK market use what’s called a traditional “asset based” approach. This means that the target asset allocation drives the level of portfolio risk. The asset allocation for each portfolio is broadly fixed, and volatility therefore fluctuates.
An alternative approach is called a “risk-based” approach. This means that a target level of portfolio risk drives the asset allocation. The risk level for each portfolio is targeted within a band, and the asset allocation therefore fluctuates.
Every month we publish an outcome chart for these portfolios to evidence that the realised (rather than expected long-run) volatility is within its prescribed range: in short that the portfolios are doing what they say on the tin as described in the objectives – “to ensure portfolio volatility remains within target bands whilst maintaining the opportunity for diversified real returns”.
The most recent month-end outcome chart for end February is below.
We offer ten Volatility Focus portfolios each with different volatility bands. For comparison against the performance of traditional asset based strategies, in the recent downturn, we have run a year to date analysis, comparing Volatility Focus risk profiles against traditional equity allocation asset-based strategies, for 20%, 40%, 60%, 80% & 100% equity allocations.
The analysis shows that volatility focused approach has protected capital to a greater extent than a traditional asset-based approach.
For investors looking at paper losses in traditional asset-based strategies, this is probably not the right time to switch.
For investors holding assets in our Volatility Focus strategies, times like these are a useful reminder as to why a differentiated approach to risk management can have a useful role to play in your portfolio.