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“Unit trusts are undoubtedly the premier investment vehicle in South Africa because of their ease of access. The first unit trusts were launched in the 1960s, but only really gained popularity in the 1990s. ”

Funds: The Dynamics of Choosing a Fund Manager

The Dynamics of Choosing a Fund Manager: You Might Need the Buffer They Offer

By his mid-40s Marco Visentin, an international project manager in the engineering industry, had hardly any investments or a pension provision worth mentioning. He belatedly decided to begin saving and 10 years later, having formed a consortium with some family members and friends, manages a portfolio of R5 million, having made returns of 25% a year throughout that decade.

This compares with the best performing domestic equity funds returning 18,8% over the past five years. His only costs, he says, are JSE transaction fees. He attributes his success to a long-term investment horizon: he rarely sells and reinvests all the gains he has made - including dividends - back into the portfolio. Marco is not concerned about market volatility.

Many such individuals are choosing to invest on their own and frequently outperform experienced fund managers, whose hands are tied by investment mandates. If a non-professional can consistently outperform the country's best fund managers, this poses the question of where people wanting the best return - but don't have the time to do it themselves - should place their money.

In early August 2012 the JSE all-share index had risen to its all-time high at 35,470 and it is at times like these that interest in investing peaks. This capped an investment purple patch in which assets managed by the local Collective Investment Schemes industry also reached its all-time peak of R1 04-trillion (June 2012), out of a total investment pool of about R4 trillion.

Unit trusts are undoubtedly the premier investment vehicle in South Africa because of their ease of access. The first unit trusts were launched in the 1960s, but only really gained popularity in the 1990s. Since then they have reshaped the savings industry in South Africa, yet many investors don't understand the key advantages of this product.

Jeanette Marais, director of distribution and client service at Allan Gray, explains: ‘Unit trusts allow investors to invest using relatively small amounts of money - around R500 a month - to access investments that may normally be out of their reach, such as shares, bonds or property.'

However, for the person with R500 000 to R20 million to invest, are unit trusts the way to go?

Alwyn van der Merwe, director of investments at Sanlam Private Investments, says that with amounts below R500 000, unit trusts or electronically traded funds are definitely the solution. But for larger amounts, an excellent alternative is a segregated portfolio, in which the investor holds stocks and other assets in his own name that are managed by a fund manager.

‘With amounts of R5 000 to R10 000, you simply cannot afford to buy shares, and even with larger amounts the high transactional cost and inability to sufficiently diversify make it inadvisable,' he says.

He lists the deciding factors between unit trusts and a segregated portfolio as:
‘With costs, a segregated portfolio is cheaper by perhaps half a percentage point, which is significant when compounded over 20 years or more.

Another advantage of a segregated portfolio is that they can be structured around the personal objectives and considerations of the client, which a unit trust cannot accomplish. With a lump sum, we can time our entry to the market to get the best value. In the case of a unit trust, the fund manager has to buy in immediately, whether the stocks are expensive or not.'

However, he notes that ‘ego' is the biggest consideration for high net worth individuals having segregated portfolios. People who have made it in life tend to prefer personal ownership. In a segregated portfolio, the stocks and other asset classes are in the person's own name, whereas in unit trust the investor owns a proportion of a pool of assets.

An important advantage of a unit trust is that capital gains tax is not levied on every transaction, whereas it is in a segregated portfolio.

‘In terms of long-term performance, there shouldn't be a great deal of difference if the investment objectives are the same,' says Van der Merwe.

Johan van Zyl, Director at Stonehage Investment Partners, which is the investment advisory arm of the Multi-Family Office Stonehage, claims this is not necessarily true. He believes that what is not taken into account in this argument is ‘herd instinct', which can be highly detrimental to unit trust performance, but is less of an impact on a segregated portfolio, in which case quality personal investment advice usually prevents emotional decision-making.

He explains that for reasons such as these, segregated portfolios are making a comeback.

‘The herd mentality is the single biggest enemy of wealth creation, one that run-of-the-mill fund managers are rarely able to escape. Unit trusts have certain liabilities, such as mandates that restrict their freedom of action, or the need to make forced adjustments to the portfolio when investors panic and buy or sell at inopportune times,' he states.

Johan van Zyl claims that only private client wealth managers such as Stonehage have the true independence to adopt the contrarian viewpoint that can ultimately escape the herd instinct of investment. Furthermore, it is only in the relative freedom of a segregated portfolio that such viewpoints can achieve success. ‘To be a successful investor, one has to be able to stand back from the heady emotions of the market place. It is the private client wealth manager who provides the necessary buffer between those emotions and the market,' says Van Zyl.

David Leslie, Managing Director of Belmont Asset Management, explains that the first step to achieving sound financial planning has to be the independence of financial advice offered.
He notes, ‘The depreciation of wealth that many high net worth-individuals (HNWIs) have experienced in their investments since 2007 has been an eye-opener to them, as they have come to realise they were really invested in products that suited their asset manager or adviser more than it suited themselves.

What we avoid is “group think”. We are a highly disciplined outfit that refuses to get carried away by crowd-influenced behaviour. Of course, there are times when the crowd is correct, in which case we ride the trend – but that is only coincidence,' he notes.

Both Leslie and Van Zyl claim a long-term investment strategy also comes at a significantly lower cost to clients. For instance, they rarely switch investments, which reduces the costs associated with switching.

Leslie states: ‘The most important lesson for investors to learn is that it is time “in” the market which delivers the power of compounding. We see a three-year time horizon as being minimum, for only over this duration can you intelligently decide if a view was right or wrong. “Timing” the market is both dangerous and historically costly.'

Nonetheless, short-termism is rampant today, and it is typically only in the high net worth space that it can be curbed through sound and trusted advice.

Horror stories abound of people selling in panic in 2008, but unable to exit the market during the actual crash, yet not being in it during the recovery. Many investors have not recovered, although the JSE indices have risen to greater heights than ever before.

‘This is not the experience of private client managers. In our own case, we had only one such individual ignore our most persuasive advices and sell in panic,' says Leslie.

Nonetheless, not everyone has the millions to warrant a segregated portfolio, and the unit trust industry has grown rapidly. Unit trusts are a flexible form of investment, as you can either invest a lump sum or make regular monthly investments. Your money is always accessible because you can cash in your investment or a portion of it, when you need to.

‘Choosing the right manager and the right fund is very important and bad long-term choices often result in short-term underperformance. If you have conviction in your investment decisions it will be easier to ride out the tougher times,' says Marais. This is more easily said than done. With over 30 managers and more than 900 local unit trusts to choose from, it isn't surprising that would-be investors become overwhelmed.

If you don't have the stomach but still want to invest – maybe you need that buffer a wealth manager offers. asa

Author: Eamonn Ryan, LLB (Hons), is Business Journalist.