Taking a closer look at absolute return mutual funds.

The termabsolute returnis a funny one. It literally only means the percentage gain or loss on an investment over time, but asset managers and media alike have mutated the term to describe a sublime method of investing, a sort of nirvana where, regardless of the macroenvironment, positive returns with low volatility are achievable.

For example, take Putnams funds (Putnam Absolute Return 100(PARTX), Putnam Absolute Return 300(PTRNX), Putnam Absolute Return 500(PJMDX), Putnam Absolute Return 700(PDMAX)). The prospectus claims that the absolute return moniker distinguishes the funds goal and investment strategies from those of most other mutual funds available in the market place, which are managed with the goal of outperforming an index. Instead, these funds seek to earn a positive total return over a reasonable period of time regardless of market conditions or general market direction, and investors should expect the funds to outperform the general securities markets during periods of flat or negative performance, to underperform during periods of strong market performance, and typically to produce less volatile returns than the general market. Other absolute return mutual funds promise more or less the same–positive returns, low correlations to the market, and low volatility.

If this goal seems a little lofty, it is. We examined 19 distinct absolute return mutual funds in our database, both dead and alive, and found that these funds have not, in fact, performed as planned. Furthermore, we examine the idea of an absolute return fund, the idea that there exists an investment strategy that allows positive returns with low correlations or sensitivities to general market movements, and find that, in fact, these funds do not follow such an investment strategy.

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Nadia Papagiannis does not own shares in any of the securities mentioned above. Find out about Morningstarseditorial policies.