The Genesis of GARS
Standard Life Investments' Global Absolute Return Strategies (GARS) Fund was born out of the need to address a significant funding deficit in the parent company's staff pension scheme. By 2005 it had become clear that a traditional balanced approach, despite having delivered outperformance through tactical asset allocation and alpha generation, was not going to be able to achieve trustees' twin objectives of closing the deficit, while also minimising risk. GARS was developed as the "return engine" of Standard Life's pension solution, a role it continues to play today.
Investment Targets and Themes
GARS aims to provide cash* +5% p.a., gross of fees, over rolling three-year periods, and to do so with volatility typically ranging between 4% and 8% - broadly one third to a half of the risk of an equity portfolio with similar long term return potential.
The Fund is built around three key investment considerations - time frame, breadth and balance. Time Frame matters as research indicates that a longer investment outlook captures return more efficiently from demonstrable market inefficiencies. Market participants seek to profit from money-making ideas that have a chance of maturing on a similar timescale to that over which they are appraised. Due to the increasingly short-term nature of fund management mandates, opportunities have arisen for those participants willing to take a longer-term view. Breadth refers to the broad investment freedom that enables a diverse array of strategies to be combined, resulting in a robust portfolio. A cash benchmark means the Fund's investment universe can develop as market conditions change and is limited only by the competencies of Standard Life Investments. Balance refers to GARS' tripartite focus on return, diversification and liquidity, all of which must be satisfied for the inclusion of a strategy.
Figure 1: Avoiding the extreme returns of equity investing - distribution of weekly returns: GARS vs MSCI Global Equities
Source: Standard Life Investments, net performance from 12/06/2006 to 31/08/2012. Portfolio performance is based on the £, institutional pooled pension portfolio. Thomson Datastream, MSCI World (£) (net of tracker fund fee).
GARS avoids the extreme returns associated with equity investing through achieving a comprehensive level of diversification. This is realised by building a portfolio of assets that will respond differently to economic events. The weekly distribution of returns from GARS and Global Equities are shown in figure 1, above. This chart demonstrates the narrower return range investors in GARS have experienced relative to those invested in global equities over the period since inception.
Risk-Based Investment Process
The GARS portfolio typically comprises 20 to 35 strategies selected by a risk allocation-driven investment process. As each strategy has different return prospects and risk expectations it is possible to build a range of positions that are expected to achieve the performance objective. GARS is constructed to achieve its objectives in light of a central economic view of the future, but is also positioned to perform in the widest possible range of plausible scenarios.
As well as dynamically allocating to traditional markets and utilising security selection, GARS can also apply more advanced techniques. The advanced strategies make use of markets and relationships that have return prospects which do not persist indefinitely. Directional strategies are made in areas where there is little or no systemic reward, such as currencies and volatility. Due to their cyclicality these strategies may be ignored by conventional asset allocation approaches that concentrate only on long-term risk premia. Relative value strategies generate return by exploiting the correction of imbalances between interrelated pairs of markets. In addition to serving as valuable sources of return, both categories of advanced strategies provide significant diversification benefits.
Dynamic allocation across a broader investment universe results in more effective diversification and the capability to perform in all market conditions. Despite the turbulent market conditions that have prevailed since GARS was launched as an institutional pension fund in June 2006, it has generated a gross annualised return of 8.7%**. This was achieved with an annualised volatility of 6%***, significantly lower than the 15.8%*** annualised volatility rate for global equities.
* represented by 6 month sterling LIBOR
** Source: Standard Life Investments, 12/06/2006 to 30/09/2012
*** Source: Standard Life Investments (Fund) and Thomson Datastream (MSCI World Index), monthly data, 01/07/2006 to 30/09/2012
Andrew Ford, Absolute Return Investment Specialist, Standard Life Investments
First Published in Portfolio Adviser – October 2012