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Below are some terms explained that are commonly used in absolute return investing. Please note that this is a general guide.
Absolute Return
An investment strategy aiming to deliver positive returns during all market conditions.
Alpha
The risk-adjusted return a security or a portfolio would be expected to earn if the market rate of return were zero.
Annualised Sharpe Ratio
A measure of return adjusted for the amount of risk that has been taken. The higher the Sharpe Ratio, the better the portfolio's return in risk adjusted terms.
Beta
Measures the sensitivity of a share or portfolio compared to the underlying market or benchmark. If a share moves perfectly in line with the market, it has a Beta of 1. If it moves only half as much as the market, its Beta is 0.5.
CFDs
A Contract for Difference (also known as Equity Swaps) is an agreement between two parties to exchange the difference between the trade price and the closing-out price. It provides synthetic exposure to the underlying stock without ownership.
Correlation
A statistical measure showing the relationship between two different information sets. The range of the data is -1 to 1, the closer the cross-correlation value is to 1, the more correlated the information sets are.
Derivatives
Financial instruments enabling investors to gain exposure to equities, commodities or other investments without having to trade the physical assets or shares. Derivatives include CFDs, Futures, Options and Synthetic Assets.
Drawdown
The total loss a portfolio suffers during a period of negative returns. Maximum drawdown is the largest ever loss a portfolio has experienced, measured from the top to the bottom of the particular period of time.
Equity Long/Short
Returns in this strategy are usually dependent on the manager’s ability to accurately pick stocks as well as change net exposure according to market conditions.
Futures
A legally binding agreement on a derivatives exchange to make or take delivery of a specified asset at a fixed date in the future, at a price agreed upon at the time of dealing.
Liquidity
The degree to which a fund can divest itself of underlying assets to raise cash if this becomes necessary.
Long Positions
The buying of a security with the expectation of a rise in value.
Market Neutral
A strategy by which the fund manager seeks to balance long and short positions with the result that the portfolio's sensitivity to fluctuations in the broader market is reduced.
NAV (Net Asset Value)
A fund's price per share. It is the value of the Fund’s assets less the liabilities, divided by the total number of shares in issue.
Net and Gross Exposure
The exposure level of the fund to the market. Net Exposure is calculated by subtracting the short percentage from the long percentage. For example, if a fund is 100% long and 20% short, then the Net Exposure is 80%. Alternatively, Gross Exposure is calculated by combining the value of both long and short positions. For example, if a fund is 100% long and 20% short, then the Gross Exposure is 120%.
Short Selling or “Shorting”
Fund managers use this technique to borrow then sell what they believe are overvalued assets with the intention of buying them for less when the price corrects. Under UCITS regulations short selling is not permitted however "synthetic shorting" is possible. Please refer to the Synthetic Assets definition.
Synthetic Assets
Benefiting from an asset without physical ownership, via derivatives instruments such as Futures and CFDs.
UCITS III
UCITS stands for Undertakings for Collective Investment in Transferable Securities and is a European Union directive, applicable in the UK since 2002. Together the new directives provide for standardised and simplified fund prospectuses, as well as a wider range of investment powers. Under UCITS III, funds are permitted to invest beyond the usual asset classes of equities and bonds. They can hold cash as an asset allocation tool rather than simply for short periods while waiting to invest. They can also take advantage of derivative structures, either to limit risk or increase return, as well as holding index tracking and funds of funds.
Volatility
The relative rate at which the price of a security moves up and down. This is usually measured by Standard Deviation. The greater the volatility, the higher the risk.
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