The impact of asset managers closing their funds

When a successful fund closes its doors to new business, it raises questions as to why - and also poses challenges for trustees.

Mark Lindhiem, South Africa Chief Investment Officer of leading multi-manager Investment Solutions, said the most common reason a manager would close some or all of their portfolios are due to capacity issues and or to ensure they can continue to deliver outperformance for their clients as they have done in the past.

“Successful managers typically experience strong growth in assets under management as clients are attracted to the higher levels of relative outperformance.

“While one would initially assume that growth in assets is positive for a manager because the more assets they have under management the more fees they earn, which can aid further growth and success. However, there is a certain critical mass in assets under management beyond which a manager will struggle to add the same levels of outperformance that they have been able to add in the past.”

Lindhiem points to two main reasons for this:

1) If assets under management are sufficiently large, this largely precludes the manager from taking advantage of opportunities in certain sectors of the market.
Said Lindhiem: “A good example is small cap equities.

“This sector comprises smaller size companies which often present managers with good investment opportunities because there are more often mis-pricings in this less liquid sector of the market.”

A portfolio manager managing a very large equity portfolio cannot take meaningful positions in many of these companies as even allocating a small percentage of their portfolio to a particular company could mean they will own more than the allowable percentage of the company in terms of JSE or other regulations.

2) A portfolio manager running a very large portfolio may also find it much harder to get into or out of shares quickly when opportunities arise.

The size of a strategic holding in a particular share could be large if the portfolio size is very large, and it may take time to trade into or out of a position, by which time the opportunity may have evaporated due to other, typically smaller, investor activity. Trading in abnormally large volumes of a single share can also impact the execution price negatively.

One counter to this though is if the manager builds their exposure sufficiently early when demand is low or non-existent for these small shares.

Managers may also choose to close their portfolios if they have experienced a sharp increase in their assets under management and need to build up capacity in terms of staffing and administration to handle the extra load.

Such closures are usually temporary, with the portfolios re-opening once the manager feels they are ready to take on new assets.

Lindhiem also notes that there is no ‘magic number’ to pin to this maximum capacity level.

Where a manager closes, Lindhiem advises that “The first step is to ascertain from your manager exactly under which circumstances they will accept further assets, particularly in the case of a soft close.”

A soft close generally means managers will continue to accept flows from existing clients, but will not take on any new mandates. A hard close is more restrictive, and in this case a manager will not accept any new assets at all – whether in the form of contributions from existing clients or via new mandates.

“It is also important to ensure that your fund is being treated fairly and in the same way as for all other clients of the manager in question.

“Although some of the highly respected managers have closed at some time or other, there is generally sufficient choice in the South African market, as some of the newer managers to emerge over the past few years, are proving their worth,” Lindhiem advised.