2015 Fund Awards: Absolute Return

Best cautious fund

Premier Defensive Growth

The Investment Association's targeted absolute return sector contains a wide variety of funds. To qualify for inclusion, they must aim to deliver positive returns in all market conditions, within a period not exceeding three years.

However, the funds in the sector invest in different types of assets and this is also reflected in the type of returns they produce. We have therefore decided to give two awards in this increasingly important category.

The first is for the best cautious fund investing in bonds or similar assets. The winner is Premier Defensive Growth. It also won our smaller absolute return fund award last year.

Managed by Paul Smith, the fund has produced a positive return in all 24 of the one-year periods over the past three years (the first 12-month period ends in the first month of year two).

In order to achieve this result Smith focuses primarily on investments that have a fixed life, enabling easier identification of the major risks, and also a fixed return. He describes these features as "the two Fs".

Typical investments include investment companies, zero dividend preference shares, convertibles, bonds and derivatives.

He also likes to invest in securities that rank near the top of a company's capital structure, therefore ensuring a predictable return profile. Altogether it results in a diverse portfolio that should produce stable growth.

The fund can have exposure to different geographical regions, sectors and asset classes. Smith starts his investment process by looking at global trends and he then drills down further to find the sectors and assets where he believes there is good return potential.

Then comes the crucial stage: searching for access to the preferred sectors and asset classes at the lowest risk. If Smith cannot find a low-risk investment route into a specific sector or asset, then he does not invest.

Geographical and sector weightings are based purely on Smith's conviction. The readily tradable holdings in the fund allows it to switch between different investment types and regions during changing market conditions. The fund currently has around 150 holdings, so risk is widely spread.

The 'B' share class was monitored for this award, with a three-year return of 14.98%. On Interactive Investor the fund's 'C' share class is available, which returned 15.03%.

Best adventurous fund

Henderson UK Absolute Return

Investing in shares can be very rewarding, but they tend to be volatile. For this reason we regard a fund that is aiming to achieve a positive return every year from shares as more adventurous than a fixed income or mixed asset fund with the same aim.

Our award winner in this new category is Henderson UK Absolute Return, managed by Ben Wallace and Luke Newman, which aims to achieve positive returns from UK shares.

Although they stress that a positive outcome every year is not guaranteed, the fund has managed to achieve a positive return in every one of the 24 one-year periods over the past three years of performance, the yardstick used for the Money Observer award.

The fund's investment universe is large: it includes medium-sized UK companies but has a bias towards larger FTSE 100 companies. As well as buying the shares, the managers can also use derivatives to help achieve their target.

Their main focus is on earnings growth. They believe the key factor behind superior share price performance is a company's ability to deliver earnings growth in excess of market expectations.

Conversely, failing to meet market expectations will lead to underperformance. Wallace admits: "While this may seem to be stating the obvious, a clear focus on earnings growth helps us disregard unhelpful market 'noise'."

The outlook for individual companies is the main consideration, but the managers admit that higher-level factors can influence composition due to the opportunities they throw up. For example, Newman points out: "We believe that the UK insurance sector is still undervalued following the UK's 2014 Budget announcement on annuities."

They attribute the fund's consistent results over the past three years to staying 'nimble and liquid', taking tactical positions in shares affected by short-term factors such as company and broker announcements, making sector rotations and holding core positions where they have long-term views on earnings growth expectations.

Thanks to the fund's ability to hold both shares and derivatives, which enables it to gain even when share prices fall, the managers say they are genuinely indifferent to the direction stock markets are moving in. What they regard as more important for generating absolute returns is that share correlations remain low.

The 'I' share class was monitored for this award, with a three-year return of 30.31%.