The institutional fund manager's job is getting immensely difficult these days. With the recent malaise plaguing the financial industry, the fund managers will have an even harder time in future to strive to outperform the benchmark, earn their keep, keep their bosses and financial risk analysts satisfied.
Disclaimer: The below are not directed at any specific funds or agencies; it is merely an expression of the author's opinion on the efficacy of institutional fund management. YMMV.
Institutional fund managers face immense challenges.
Firstly, their portfolio performance is rigourously benchmarked using various indicators across the entire board of fund managers very regularly, like every 3 months. Secondly, they have to maintain a mandatory percentage of cash float for people who may be redeeming their funds. Thirdly, not forgetting, fund managers are increasingly bugged with justifying to a team of risk managers on why certain decisions they make have mitigated financial risks to the benefit of fund holders. Fourthly, they are to invest within the strict bounds of an investment policy that defines what is deemed as a "stable" or "balanced" or "dynamic" portfolio; there are no ways that they can deviate from this policy.
Feels like these measures of investment policy statement, risk managers, quarterly performance ranking, are good for the fund investors eh? Take a closer look and reality reveals otherwise.
A Performance Ranking Induced Myopia in Investment Horizon
The great implication of quarterly performance ranking is that fund managers are forced by circumstances to adopt a very short-term myopic perspective towards managing investments. Structure drives behaviour, the more regular their performance ranking, the more myopic they become. To maintain that mandatory cash float, fund managers will usually look through their list of investments: those investments that are good and have yielded solid gains are the first to be sold, while the losers are retained inside the portfolio. And they have to be careful that there is not too much excess float going around, because they have to invest the excess to obtain good gains.
Influence of Forces and Demand and Supply on Fund Performance
There will also be times when they have made good investments in excellent businesses, but the gains can only realised by the market after an extended period say 12 months, but because they are forced to maintain the float, they often have to sell out prematuredly probably at a loss or break even point. This is a classic case in point that fund performances are in many ways heavily influenced by consumer demand and supply of the fund float. So, sometimes if the funds you bought have performed badly, do not always thumb it on the fund manager, sometimes it is an outcome that is driven by consumer demand.
Portfolio Churning
Normally, what fund managers are 'coerced' into doing is call 'portfolio churning' - they will sell out on good investments to maintain the float, buy back into them when there's excess, keep the lousy ones in the hope of recovery in a bull market, and along the way, incur greater transaction costs that ultimately end up as management fees. Look out for the end-of-year volume on the Singapore Stock Exchange, you will notice unusually high volume of trades, this is because fund managers are near their year end reporting times, and you have large fund investors hopping around.
The Nameless & Faceless Fund Manager
Now, to complicate matters further, fund managers do not always remain in that fund always. Their appointment constantly change. Your returns are in many ways like unpredictable seasons and monsoons, all hinging on the skill of one person, unknown to you, hidden behind the name of a fund. If you get Peter Lynch or John Neff, good for you; but if you get an amateur finance manager, good luck to you then.
If you look across all the funds, there are some of the funds that seem to track the indexes (e.g. Dow, STI, Hang Seng, Kospi, S&P, JCI) pretty closely, well that's because the funds just buy index stocks. Then there are some that outperform the market slight, some that do extremely well, but most of them languish in mediocre gains.
So, is investing in institutional funds, entrusting your money to a group of professional money managers the way to go? I think as a DIY investor, I can probably do as well, if not better than them.
As usual, YMMV.
Disclaimer: The below are not directed at any specific funds or agencies; it is merely an expression of the author's opinion on the efficacy of institutional fund management. YMMV.
Institutional fund managers face immense challenges.
Firstly, their portfolio performance is rigourously benchmarked using various indicators across the entire board of fund managers very regularly, like every 3 months. Secondly, they have to maintain a mandatory percentage of cash float for people who may be redeeming their funds. Thirdly, not forgetting, fund managers are increasingly bugged with justifying to a team of risk managers on why certain decisions they make have mitigated financial risks to the benefit of fund holders. Fourthly, they are to invest within the strict bounds of an investment policy that defines what is deemed as a "stable" or "balanced" or "dynamic" portfolio; there are no ways that they can deviate from this policy.
Feels like these measures of investment policy statement, risk managers, quarterly performance ranking, are good for the fund investors eh? Take a closer look and reality reveals otherwise.
A Performance Ranking Induced Myopia in Investment Horizon
The great implication of quarterly performance ranking is that fund managers are forced by circumstances to adopt a very short-term myopic perspective towards managing investments. Structure drives behaviour, the more regular their performance ranking, the more myopic they become. To maintain that mandatory cash float, fund managers will usually look through their list of investments: those investments that are good and have yielded solid gains are the first to be sold, while the losers are retained inside the portfolio. And they have to be careful that there is not too much excess float going around, because they have to invest the excess to obtain good gains.
Influence of Forces and Demand and Supply on Fund Performance
There will also be times when they have made good investments in excellent businesses, but the gains can only realised by the market after an extended period say 12 months, but because they are forced to maintain the float, they often have to sell out prematuredly probably at a loss or break even point. This is a classic case in point that fund performances are in many ways heavily influenced by consumer demand and supply of the fund float. So, sometimes if the funds you bought have performed badly, do not always thumb it on the fund manager, sometimes it is an outcome that is driven by consumer demand.
Portfolio Churning
Normally, what fund managers are 'coerced' into doing is call 'portfolio churning' - they will sell out on good investments to maintain the float, buy back into them when there's excess, keep the lousy ones in the hope of recovery in a bull market, and along the way, incur greater transaction costs that ultimately end up as management fees. Look out for the end-of-year volume on the Singapore Stock Exchange, you will notice unusually high volume of trades, this is because fund managers are near their year end reporting times, and you have large fund investors hopping around.
The Nameless & Faceless Fund Manager
Now, to complicate matters further, fund managers do not always remain in that fund always. Their appointment constantly change. Your returns are in many ways like unpredictable seasons and monsoons, all hinging on the skill of one person, unknown to you, hidden behind the name of a fund. If you get Peter Lynch or John Neff, good for you; but if you get an amateur finance manager, good luck to you then.
If you look across all the funds, there are some of the funds that seem to track the indexes (e.g. Dow, STI, Hang Seng, Kospi, S&P, JCI) pretty closely, well that's because the funds just buy index stocks. Then there are some that outperform the market slight, some that do extremely well, but most of them languish in mediocre gains.
So, is investing in institutional funds, entrusting your money to a group of professional money managers the way to go? I think as a DIY investor, I can probably do as well, if not better than them.
As usual, YMMV.
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