Tread carefully in Jekyll and Hyde world of unit trusts
Not all funds can be regarded as safe havens - some perform well, others badly. A new ranking could help you to choose, writes LEIGH ROBERTS
Personal finance author and adviser Professor Karl Posel - a man who is never short of controversial views - this week ranked 61 local equity funds in terms of new evaluation criteria, which are sure to get the industry in a whirl.
Using the same model, Posel also predicts the funds that will do well in the 12 months ahead.
Posel has graded the 61 funds that invest in equities (from general equity to index funds) according to their investment performance over the past year.
The accompanying table shows the frequency distribution of the returns. Posel has excluded the 10 funds investing in gold and mining resources because their extremely poor returns over the past year would distort the distribution (all but one rendered negative returns, and investors in gold funds lost 40% of their investment).
The relevance of the frequency distribution table, explains Posel, is twofold: First, it proves just how picky investors have to be when choosing their funds. Second, it highlights those funds which, by mathematical extrapolation, are likely to continue to do well over the coming year.
The bar chart shows that the biggest grouping of funds (17) rendered a pretty dismal return of between 5% and 10%. "This means that the millions of unitholders who invested in these funds earned a negative real return or a positive real return of only one or two percent," says Posel.
The real return is a more accurate measure of investment performance and is calculated as the actual return less the inflation rate over the period, which was 8%.
But the most startling aspect revealed by the bar chart, says Posel, is just how few funds actually rendered their investors with an "adequate" real return.
"Any investor worth his salt should demand a real return of at least 10% a year from an investment. After all, the investor is looking for capital appreciation when investing his money."
Only 18 of the 61 funds met this requirement over the past year (see Posel's list of winners in the inset).
The vast disparity in fund performance has not so much to do with the individual fund objectives, but is due primarily to the selection skill of the fund management, says Posel. This is borne out, he says, by the fact that the funds on the winners' list are invested in different sectors of the market.
Many financial advisers, and asset management companies, will be sure to shout down Posel's research on the basis that the investment returns cover only one year - the traditional view being that at least three years' performance should be considered.
Posel counters by saying: "What we are looking at here is the mathematical principle of extrapolation.
"This means predicting the future by going as far back in time as we can under the same economic conditions. In other words, the economic conditions that apply today must have applied then.
" I found that one year is the maximum period for extrapolation - prior to this, conditions, especially in the workplace, were just too different."
Three years ago, explains Posel, listed companies did not have to deal with as much trade union dominance as today, and as high real interest rates. The growth in the JSE all-share index bears this out: three years ago, the year-on-year increase was 21%, but in the past year it's been only 13%.
Posel's advice to investors?
"Don't buy unit trusts and put them under your mattress. Monitor their performance at least every three months, and this is best done by looking at the Micropal performance tables published in this newspaper."
Financial adviser Andrew Bradley of Fincorp agrees with most of Posel's views, but says analysing the funds using only mathematical extrapolation is too restrictive.
"An issue that Posel has ignored is the risk of a fund. Looking at returns in isolation is inappropriate as the investor has to build both risk and returns into his investment decisions,'' says Bradley.
Other factors which have to be considered include the fund's decision-making process, the manager's style, and how the portfolio is actually constructed.
"I also do not totally agree on the one-year period used. My reason is that different fund managers perform differently under various economic conditions, and as these conditions change, so other managers will come to the fore."
Bradley, too, stresses that investors should carefully select their funds - the difference in performance between a winning fund and an under-performing fund will materially affect your wealth.