MY COLUMN on the challenges active managers face from index funds seems to have upset some, but stirred a few others into action.
For Ben Kruger, the joint CEO of Standard Bank, asset management is a rounding error in his accounts. Neither his private client manager, Melville Douglas, nor broad-based manager Stanlib, owned by Liberty, carry the Standard Bank brand. But he still felt stirred enough to send a report from Credit Suisse written by veteran fund manager Michael Mauboussin.
Mauboussin celebrated 30 years on Wall Street by giving his view of the 10 attributes of a great fund manager.
He admits upfront that it is harder than ever to generate excess returns in fund management. SA is probably a decade behind the US in this journey, but even here, we are starting to see the benefits of skill become more elusive. He talks about the paradox of skill, which means that as skill increases, luck becomes more important in determining outcomes. He says absolute skill has never been higher, and that’s exactly why it is hard to believe that a house of clever, shrewd stockpickers such as Coronation or Allan Gray w ill not find it quite simple to beat an index — they work hard by using vast amounts of data and by both generating their own research and processing third-party research.
But he adds that relative skill is narrowing. The difference between the best and average is much less than it was 30 years ago, most obviously because everybody has access to the same research, and no one looks for special inside access to company news unless they like prison food.
As Mauboussin puts it, to have positive alpha (excess return) someone else has to have negative alpha of the same amount. Yet many of the weak players have left the market, at least in the US, as index funds eat their lunch.
Mauboussin’s 10 attributes of fund managers start with "be numerate", which doesn’t mean slavishly sticking to traditional accounting measures such as earnings per share. In fact, he says the key attribute of the fund manager is to translate financial statements into free cash flow, which is the lifeblood of corporate value. Growth in earnings and growth in value are quite distinct.
Number two is to understand value, which he defines as the present value of free cash flow. This determines the value of any asset at any time in the cycle. He says cash is a fact, but profit is an opinion.
The third attribute is to assess strategy properly, which is not some lofty vision thing, but knowing how a business makes money. This includes the basics for its industry, such as how much it costs to build and stock a shop. It also involves assessing its competitive advantage or economic moat.
Another attribute is the ability to distinguish between the fundamentals of a company and the expectations in its share price. He also says it is important to think probabilistically, as there are few sure things.
Too many fund managers in SA are just too rigid in their thinking. They should listen to Mauboussin’s sixth suggestion that people should update their views effectively — beliefs are hypotheses to be tested, not treasures to be protected.
Closely related to this is point seven: beware of behavioural biases to minimise constraints to good thinking. And he says it is crucial to know the difference between information and influence. Investing is a social exercise and prices can influence irrational behaviour — best illustrated by the internet boom of the late 1990s.
Getting the position size right and keeping an open mind conclude the Mauboussin top 10. Do you think your fund manager can tick all these boxes?
ONE of the criticisms of the retirement fund sector in the government’s white paper has been that once a member retires ,they are kicked out of their funds and left to make their own decisions. The official line is strongly in favour of in-fund annuities. So, the launch by the Alexander Forbes Umbrella Fund of its own in-fund preservation fund and living annuity must be a step forward.
The umbrella fund, which has 300,000 members with multiple employers, offers what it considers to be cost-effective products, and even sharing, caring Forbes financial advisers on tap, at a negotiable fee.
Mike Prinsloo, from the Forbes research and development unit, says it is an opportunity to translate an institutional umbrella fund into a powerful financial planning tool for members.
In future, Forbes is looking to add home loans, short-term loans and insurance to the product set. The options could also be expanded to include a fixed annuity and a with-profit annuity.
The preservation fund, for those who need to park their assets after leaving the fund, looks keenly priced with administration at 0.2% up to R2m. Investment fees are on top of that, but at least they are priced at institutional rates. And even if you are under 35, preserving retirement benefits is essential if you are to have any hope of a comfortable retirement.
The living annuity allows clients to invest in a range of unit trusts and draw down 2.5%-17.5% of their capital every year. It has a more condensed range of products than most linked investment service providers offer, and encourages you to select from its core range run by sister company Investment Solutions. But for those who don’t want the world painted in Forbes’s orange and grey corporate colours there are some other options.
The compelling benefit, apart from the convenience of not switching or waiting for permission to transfer out of the fund from the Financial Services Board, is cost. Prinsloo says R100,000 preserved in the Forbes umbrella fund should grow in 35 years to R243,000 in-fund, rather than R189,000 outside the fund. And with R1m invested in a living annuity, the client, because of lower costs, can afford to draw down a higher income — in this case R417 more, or R4,167 a month.
Forbes seems to go further down the product factory route every year. But it still has its roots in independent advice. I hope it will not do a heavy sales pitch for the in-fund products. But Forbes is shrewdly positioning itself for the arrival of default annuities and preservation funds under retirement fund reform (for members who do not want to choose options themselves). It is already positioning itself for default member investments through its core LifeStage range.
Forbes has a catchy new slogan: "You do life, we’ll make it count". I don’t know if they recalled the Unilever washing powder ad — "We do laundry, you do life". I won’t comment on the similarities between laundry and financial products, but Forbes can easily sell as well as any soap vendor.