Anybody who has bought a cautious managed fund will have discovered to their dismay that they don't do exactly what it says on the tin.
What does that word "cautious" suggest to you? To me, it suggests safe, solid, low-risk, a slightly better return than cash and fixed interest, but with none of the dangers of a full-blooded foray into stocks and shares.
The cautious managed sector sounds ideal for older investors who want their income to keep pace with inflation, without seeing their capital ravaged by the kind of upheavals we have seen in the last 18 months.
It does not sound like a sector that crashes 15% in just 12 months, or posts a 14% loss over three years.
But that is exactly what the cautious managed sector has done.
Boom and bust
The cautious managed sector was dreamed up by the Investment Management Association (IMA) in 1999, and in the next eight years attracted a hefty £9.2 billion of investors' money. As the stock market started to wobble, investors continued to plough in funds, attracted by that dangerous word cautious.
Managers launched new funds and funds of funds to meet the booming demand -- more than 100 in the past four years. And then the wheels came off.
Over-exposed
So what's in a name? In the case of cautious managed funds, you really do have to wonder.
The IMA states that a cautious managed fund should have a maximum equity exposure of no more than 60%, combined with at least 30% invested in fixed interest (either corporate or government bonds) and cash. The aim is to provide both income and capital appreciation, while avoiding excessive risk.
That means preserving your capital while using equities and bonds to generate returns above cash. Something, of course, they have spectacularly failed to do.
Managed decline
IFAs sold cautious managed enthusiastically, pitching them as entry-level investment funds for risk-averse older investors.
They handily plugged the gap left by the collapse of with-profits bonds, but failed to deliver the same smoothing effect. Anybody who thought this sector was lower-risk will be feeling roughed up at the moment.
Some funds have had a disastrous year. Aegon UK Cautious Managed and New Star Cautious Portfolio both fell 22% in 12 months, according to figures from Trustnet.com. CF Miton Cautious Income dropped a crushing 32%.
With a handful of exceptions, all 155 funds in this overgrown sector lost substantial amounts over the past 12 months. And astonishingly, of the 48 funds that can boast a five-year track record, one in four has lost money over that time.
Although on the plus side, at least the sector as a whole is up 7% over five years. And the clear winner is CF Ruffer Total Return, up 11% over one year and 50% over five years. But it's not much use me telling you that now, is it?
Proceed with caution
Of course fund managers and IFAs weren't to know that both equities and corporate bonds would have such a stinker in recent years.
But have to ask whether any fund invested up to 60% in equities could ever merit the title cautious. As the credit crunch has violently demonstrated, even the most solid global blue chip can't escape a downturn of this scale.
And nor can corporate bonds. The average sterling corporate bond fell 10% over the last year and 13% over three years. In fact, they even fell 3.3% over five years.
Some cautious managed funds also invested in property, and we know what happened to that. So basically funds in this sector only had cash and government bonds to provide any buoyancy.
Throwing caution to the wind
Another problem is that cautious managed funds are in the same game as any other investment fund. They have to attract the punters, and the best way of doing that -- despite all the warnings about past performance -- is to deliver strong returns.
Unfortunately, many took ever greater risks to achieve that, which was fine in the good times but altered their profile dangerously in the bad.
Some fund managers threw caution to the wind, and their investors have been blown away.
Caution pays
Just as you should never judge a book by its cover, you should never judge a fund by its sector.
Especially since cautious managed funds have wildly different risk profiles, with some heavily invested in corporate and government bonds, and others mightily exposed to equities, including emerging economies. Yet all are misleadingly lumped together in the same sector.
When choosing funds, investors really do have to look closely inside the tin before buying.
And, of course, err on the side of caution.
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