Smoothed funds and how advisers use them

​In this article, we break down how smoothing mechanisms work, why they divide opinion, and how we are using them at Elston to build industry-first blended portfolios that aim to deliver a more stable journey for both accumulation and retirement.

Smoothed funds and portfolios are designed for stable, long-term growth. They invest in a diversified mix of assets including equities, bonds and cash, and use a "smoothing" mechanism to shield investors from short-term volatility. Instead of experiencing daily price changes based on market conditions, smoothed funds (which can make up part of a smoothed portfolio) smooth out the price of the underlying investments over time. This means that instead of seeing your investment value fluctuate every day, you see a more stable, ‘smoothed’ price. In good market conditions, smoothed funds might not reflect all the underlying gains. When markets decline, smoothed funds can mitigate the extent of the decline.  For persistent or material clients, smoothed funds can adjust downwards in a step-change, so are not exempt from risk – it’s just risk repackaged differently.  Essentially, smoothed funds are designed to deliver a smoother investment journey which may be more appropriate for certain client segments.

What is a smoothed fund?

Why do they divide opinion?

The views on the benefits (or otherwise) of ‘smoothing’ really divide opinion among financial advisers. There are avid fans and then there are those who avoid them completely. Hence they are seen as a “marmite” product.  The primary barrier to adoption appears to be the difficulty that advisers have in explaining them to their clients. Providers need to try and find a way to present the mechanisms of smoothed products in a clear and relatable fashion so that advisers are better equipped to understand them and see their benefits. If an adviser can understand it, it becomes easier for a client to understand it.  For clients with an extremely low risk tolerance who struggle to be persuaded to put cash in the market, but require return above cash, smoothed solutions could have a role to play.

How are smoothed funds used in a wider portfolio?

Providers would argue that smoothed funds can be utilised as core, long-term holdings, within a diversified strategy, sitting alongside multi-asset funds and annuities. Typically providing a less volatile investment journey for clients with a low appetite for risk, smoothed funds can be especially useful in retirement planning for clients in drawdown. Those that adopt them do so because they like how smoothed funds can help mitigate sequencing risk. Those that avoid them tend to do so on account of their higher cost, and general opacity around the ‘smoothing’ mechanism.

Blending smoothed funds into a portfolio

Elston Consulting has designed a range of portfolios incorporate Smoothed Funds as part of the allocation in an industry first.  The portfolios are manufactured by Elston Portfolio Management and available to UK financial advisers.
For accumulation, the Elston Smoothed Portfolios blend traditional funds including dynamic allocation funds with Smoothed Funds for a lower overall volatility and lower overall cost than a standalone smoothed fund.  There are three risk profiles based on 35%, 60% and 80% look-through allocation to equities.  This managed approach is similar to what many advisers do already when blending multi-asset funds and smoothed funds together.  The advantage of a managed approach is consistency, timeliness and access to institutional share classes.
For decumulation, the Elston Smoothed Retirement Portfolios use a “managed bucket” approach comprising a near-term liquidity bucket, a medium-term stabiliser bucket (using a smoothed fund) and a long-term growth  bucket.  There are three risk profiles based on 40%, 60% and 80% look-through allocation to equities in the long-term bucket.  By splitting a retirement portfolio across these three time-frame buckets, and keeping them topped up on a managed basis, sequencing risk can be mitigated.  Academic studies show that a periodic rebalancing framework gives more consistent outcomes than advisers attempting to time the market with switches between buckets.  By using a Smoothed fund inside the portfolio, sequencing risk can be mitigated further.

Find out more

For more information on Smoothed solutions available to financial advisers, please contact us.