Keeping the lid on risk

Thomas wells explains why volatility isn’t necessarily a very good measure of risk.

The financial services industry is fixated with using volatility as a measure of risk to the extent that the terms volatility and risk are used interchangeably. Indeed, some multi-asset portfolios target a certain level of absolute volatility as the sole means of controlling risk. Yet risk is multi-faceted and no one metric can properly capture it. After all we must not forget that to most clients, risk is the danger of losing money. At Aviva Investors we believe there are pitfalls therefore to blindly targeting the volatility of returns.

These include the fact that volatility fluctuates over time. So a fund targeting 20% volatility in 2011 would translate to a portfolio consisting of 100% global equity. Fast forward to 2017, a period of lower volatility, and to achieve the same arbitrary 20% number, the fund manager would have to either leverage the portfolio or increase exposure to more volatile and risky assets. The problem with this approach is that when a period of market distress materialises, investors could lose more money than anticipated as fund managers are forced to sell risky assets into a declining market.

Figure 1: Rolling Three-year monthly volatility of MSCI AC World Index in sterling, 2003-2017

Source: Bloomberg as at 30 June 2017

Moreover, volatility is a poor indicator of forward risk. As you can see from the chart above, it was at extraordinarily low levels in the run up to the global financial crisis. Unlike many multi-asset managers, Aviva Investors take a different approach, targeting percentages of equity volatility rather than absolute volatility. While absolute volatility varies significantly over time, the inherent risk of investing in equities remains relatively constant.  By targeting percentages of equity volatility, the risk profile of our funds will remain relatively constant over time.

We also believe that, rather than narrowly focusing on volatility, a robust portfolio construction process lies at the heart of any successful multi-asset solution.  For the Aviva Investors Multi-asset Fund range, we focus on three key elements: Strategic, Tactical and Implementation.

  • Strategic asset allocation

    This is where we create our long-term portfolios that are aligned to your clients’ chosen risk and reward profiles.  We apply a global approach to our asset allocation to help in avoiding home bias.

  • Tactical asset allocation

    To target additional returns or in seeking to protect the portfolios, we make deviations from our strategic asset allocation in line with our House View. These are shorter term in nature (12-18 month time horizons) and involve both regional and sector calls.

  • Implementation

    We believe implementation is as important as idea generation. When we build portfolios, we take each asset’s contribution to risk into account and stress test the portfolios to help in aiming to deliver consistent client outcomes.

Key Takeaways

  • Volatility is not necessarily a good measure of risk, especially in isolation.
  • There are pitfalls to blindly targeting an absolute level of volatility as a means of managing risk.
  • Portfolio construction is important when looking to deliver consistent client outcomes.

Key Risks

The value of an investment and any income from it can go down as well as up and can fluctuate in response to changes in currency exchange rates. Investors may not get back the original amount invested.

The funds invest in emerging markets, these markets may be volatile and carry higher risk than developed markets. The funds use derivatives; these can be complex and highly volatile. This means in unusual market conditions the funds may suffer significant losses.

Investors’ attention is drawn to the specific risk factors set out in the funds’ share class key investor information document (“KIID”) and Prospectus.

Issued by Aviva Investors UK Fund Services Limited

Important Information

For financial advisers only.  This commentary is not an investment recommendation and should not be viewed as such. Except where stated as otherwise, the source of all information is Aviva Investors as at 31 December 2017.  Unless stated otherwise any opinions expressed are those of Aviva Investors. They should not be viewed as indicating any guarantee of return from an investment managed by Aviva Investors nor as advice of any nature.

The Aviva Investors Multi-asset Fund range comprises the Aviva Investors Multi-asset Fund I (“MAF I”), the Aviva Investors Multi-asset Fund II (“MAF II”), the Aviva Investors Multi-asset Fund III (“MAF III”), the Aviva Investors Multi-asset Fund IV (“MAF IV”) and the Aviva Investors Multi-asset Fund V (“MAF V”) (together the “Funds”). The Funds are sub-funds of the Aviva Investors Portfolio Funds ICVC. For further information please read the latest Key Investor Information Document and Supplementary Information Document. Copies of these documents and the Prospectus are available to download in English from our document library on