The basis of Numis’ risk rating is that the UK equity market is considered average risk for a UK based investor. Trusts are classified into one of six categories depending on their risk characteristics relative to a broad index of the UK equity market. It should be noted that all funds carry a degree of risk, and “Below Average” funds may still fall in value and you may not get back the amount originally invested.
The key quantitative measure used to assess risk is volatility* of returns, using historic net asset value (NAV) performance over 1 and 3 years. The starting point for classifying funds is a comparison of volatility against the UK equity market using a series of bands, illustrated in the table below:
Risk classifications - Initial Quantitative screen
|Category||Volatility Relative to UK equity market|
|Below Average||<70 |
|Slightly Below Average ||70-80 |
|Average ||80-120 |
|Slightly Above Average ||120-140 |
|Above Average ||140-180 |
|High ||>180 |
(Source: Numis, November 2016)
Numis focus on NAV rather than price as they believe changes in a fund’s discount, though relevant for shareholders, can provide a misleading picture of the likely future risk. For instance, a fund’s discount may widen because of selling by a major holder, but there is no reason to expect this event to happen again. In addition, the volatility of smaller, illiquid stocks is often vastly understated due to infrequent trading. As a result, we focus on the risk at the portfolio level, as measured by the NAV, and evaluate the fund’s valuation separately.
In addition to the quantitative analysis, we also assess a number of qualitative factors before determining a fund’s risk rating. Issues that may cause us to modify a fund’s rating include:
Portfolio concentration by stock or industry sector
Changes in mandate, investment style, gearing policy or capital structure
Type of asset class e.g. volatility tends to be understated in smaller companies due to illiquidity of the underlying investments, while private equity funds only publish NAV on a periodic basis. We typically assign a higher risk to less liquid underlying assets.
*In this instance volatility measures how much a trusts NAV fluctuates over time in relation to the UK equity market. The higher a volatility figure, the more the NAV has fluctuated (both up and down) against this index over time.
Please note that risk categorisations are indicative and based principally on historic data and should not be solely relied upon when making investment decisions.