Like clients in a candy store; choosing from 1805 CIS funds
Helping your clients to choose the most suitable Collective Investments Schemes (CIS) unit trusts for their discretionary investment or living annuity portfolios is a bit like guiding a youngster through Cleveland’s Sweetie Candy Company, which Google reckons is the world’s largest candy store by floor size. Like kids in a candy store, their eyes-wide-open, overpowered clients risk falling victim to decision paralysis as they take in the 1805 CIS unit trusts on offer to local investors, midyear 2023. And that’s before you give them sight of the 643 foreign currency denominated funds and 219 hedge funds stacked up in the back room.
The Jekyll and Hyde traits of multi-asset funds
As assets under management (AUM) in the domestic CIS industry top ZAR3.36 trillion, South Africa’s financial planners can be excused for seeking out any and all information that might give them an edge in navigating the complex landscape. Their never-ending quest for knowledge sees independent financial advisers (IFAs) flocking to asset management events such as the inaugural 2023 INN8 Investment Summit, where a handful of industry experts assembled for a Jekyll and Hyde type exposé of the true character of multi-asset flexible funds. Are these just balanced funds on steroids, or watered-down hedge funds? asked panel moderator Melvyn Lloyd, a Portfolio Manager at INN8 Invest.
The flexible funds that went under the microscope during the debate were all constituents of the Association for Savings and Investment South Africa (ASISA) South Africa Multi-asset Flexible Category. “To begin, you must understand just how diverse the funds in this particular CIS Category are,” said Lloyd. “You will find funds that are essentially equity funds; funds that are 85% invested in SA property; funds that are sitting with 75% cash exposure; and even a fund that is 100% invested in SA bonds and cash”. Given this diversity it becomes difficult for advisers to know which funds to include in clients’ portfolios. Hmmm, mused the writer, multi-asset flexible does sound a bit like dipping into a smarty jar seeded with the odd Lindt or Ferrero Rocher.
More wriggle room than a balanced fund…
Flexibility and nimbleness stood out as useful traits for multi-asset funds, regardless of their underlying asset allocation. In this context, the moderator asked each of the brands to explain what they understood by the word ‘flexible’. Cy Jacobs, CEO at 36ONE Asset Management, opined that flexibility and nimbleness were closely correlated to fund size. “The whole idea of a flexible fund is to try and understand [and position] where your best returns are going to be, whether in bonds, cash or equities, offshore or domestically,” he said. And Smaller funds can quickly change their asset allocation ‘mix’ based on the prevailing opportunity set. Flexible multi-asset funds tend to have more wriggle room than balanced funds because the latter must typically comply with regulation 28.
Warren Riley, Portfolio Manager at Bateleur Capital said that flexibility related to “being able to allocate capital to the best investment opportunities with the least amount of constraint”. He mentioned that the Bateleur Flexible Fund had achieved a range of asset allocations since its inception, though its inflation plus 4% return objective made a higher weighting to equities inevitable. “On average, we have had 80% in equities; and over the last 13-years we have held between 10% and 40% in cash; between zero and 13% in bonds, offshore and local; and from 10% to 34% in offshore equities,” he said. Ultimately, the aim is to generate returns that mirror those offered by equities, but at a lower risk.
According to Iain Power, CIO at Truffle Asset Management, flexibility helps in managing the downside risk while delivering CPI-plus returns. “Many clients are looking for a solution that offers real return while in the same breath they want a guarantee that capital values will be protected; the flexibility of the mandate allows portfolio managers to do that,” he said. Flexible funds can aggressively de-risk because the portfolio manager is not locked into some or other inflexible, strategic asset allocation from which he or she has to try to extract a risk premium. Power mentioned his fund’s ability to respond quickly to the rand’s volatility, holding as little as 23% and as much as 42% exposure to offshore assets over the past 12-months.
New insights into SA Bonds versus money market
Lloyd interrogated Riley on Bateleur’s recent foray into both domestic and offshore bonds, with a doubling in its allocation to the latter asset class, to 4%. Riley offered some unique insights into the bonds versus cash decision in the domestic market context, saying that the yield differential between money market and SA bonds had for some time been insufficient to compensate for the duration risk in the latter asset class; this changed during pandemic as the repo rate was slashed while bond yields stayed relatively high. He added that offshore bonds “had been a very dangerous place to be invested in” post the 2008-9 Global Financial Crisis (GFC). “Today, offshore bond yields have moved higher, inflation has come down, and you are starting to get real yields again,” he said.
The conversation morphed into something that advisers are just as likely to hear in their local Hooters as at an asset management event, with Lloyd trotting out the oft-used ‘bottom up’ and ‘top down’ asset selection methodologies. “Cy, we know that you are style agnostic, moving between value and growth … this is a combination of your fundamental ‘bottom up’ analysis coupled with a ‘top down’ macro-overlay,” he led. Jacobs was non-plussed, saying that portfolio managers needed to know how far along the interest rate cycle various markets were. “The interest rate cycle is significantly important in generating alpha,” he said. He also warned of the risk of value traps, or the potential to get ‘stuck’ in a three- or four-times PE multiple share for years.
Macro matters in fundamental share picking
Riley also shared some thoughts on asset selection. “Post-GFC, if you did not have a strong view of what central banks were thinking / doing in terms of interest rates, and where inflation was going, it was very hard to make a call on equities,” he said. He believes that the macro view feeds into ‘bottom up’ fundamental share picking activities, especially when it comes to commodity cycles and resources companies. The panellists also weighed in on the benefit of running relatively small funds, as measured by assets under management. Power commented on the notable correlation between fund size and benchmark returns; the more assets in a fund, the more difficult it becomes for portfolio managers to add alpha.
“When you become too big your ability to take advantage of opportunity and volatility goes down; it is harder to move and to maintain liquidity,” he concluded. “Being small and nimble helps you to build positions which translate into better performance over time and avail of good ideas that larger fund managers struggle to do”. Size also helps when a fund manager makes a mistake, with smaller managers able to exit illiquid positions more easily relative to their larger peers.
Writer’s thoughts:
The shrinking pool of investible JSE share is more than offset by the growing universe of ETFs, structured products and unit trusts. Is there too much investment choice nowadays? And should financial advisers even consider navigating financial market complexity without specialist investment support? Please comment below, interact with us on Twitter at @fanews_online or email us your thoughts editor@fanews.co.za
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