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Seed Weekly - Active Share - Are You Getting Value?

Over the past few years there has been an increased focus within the investment industry, by government, and through the media, on costs involved in managing client assets. Naturally these are important questions that need to be addressed, but more important, in our opinion, is to focus on whether investors are getting value for money.

As multi managers, we are acutely aware of the need to monitor manager portfolios and mitigate costs in order to deliver value to our clients. Part of this process is to ensure that any manager or mandate that we include in our Funds has a meaningful value proposition. In this regard we make use of lower cost smart beta products (that have the possibility of outperforming traditional indices) and higher cost active managers.

Here it is important that all active managers have the ability to meaningfully outperform an appropriate benchmark over a full market cycle, after the impact of costs has been taken into account. In doing so, it is crucial that the manager has a completely benchmark agnostic process, that over time will result in his portfolio having meaningful differences from the benchmark/index against which he’s being measured (on top of having a great process).

At Seed, we think that active share is the best measure of how active a fund is, and is superior to tracking error for the following reasons:
• Tracking error is backward looking (whereas active share looks at the current portfolio)
• There can be periods (particularly in broadly trending markets) where a fund can have a low tracking error, while still being completely different to the benchmark index (incorrect conclusions can be drawn from tracking error).
Drawbacks of the active share measure are that it requires holding data that can be tricky to obtain, is much more time consuming to calculate, and can (and does) change over time, but is something that is monitored on all managers used by Seed (we feel a value add as a multi manager).

When looking at local property unit trusts it is interesting to compare the active share across the various funds. For this sample we looked at the largest (non multi managed) funds comprising over 90% of the sector’s assets. While we know that property managers in South Africa are typically quite benchmark cognisant, we were shocked at just how close to the benchmark most of the funds currently are!

Out of the 12 funds investigated, only 2 of them had an active share above 50% (what we’d consider the base level for a manager to be considered active) and have been highlighted in red below. One manager has a stated objective of managing close to the benchmark (yellow) and as a result has the lowest total expense ratio (TER) of those funds surveyed (although at 0.76% is a bit higher than pure tracker, Satrix Property Index at 0.57% - which isn’t cheap in its own right)!

A major reason for the low active share is that 11 out of the 12 funds have Growthpoint (GRT) as their largest holding (with all of their GRT positions at least 5% higher than the second largest holding) and Redefine is in the top 3 holdings in 9 of the funds. The chart below shows the various managers (ranked by AUM), the TER of their fund (as per latest ASISA data), and their active share (as per latest Morningstar data). There are many managers that will tell you just why they don’t like Growthpoint and yet it’s still their largest holding and typically more than 15% of their fund (GRT is 23% of the SA Listed Property Index)!

Active Share Across Funds

When looking to include property mandates in Seed’s multi asset funds (Seed Flexible and Seed Absolute Return) we had 2 options – track the market as cheaply as possible, or pay a bit more, but get an active manager. We chose the latter and further looked to get the manager’s ‘best ideas’ in a concentrated building block, as property only makes up a portion of the Funds’ total assets. It is therefore obvious that the mandates in Seed’s funds have the greatest probability of generating a return that is different from the benchmark. As we have done extensive due diligences on the manager concerned, we feel that there is greater probability of outperformance and therefore wanted to maximise the impact of his skill set.

We feel that paying active manager fees, where active share is above 50%, is justified (although we’d typically like this number in excess of 80%). Furthermore, charging active manager fees (in our view anything above 0.75%) on a portfolio that is less than 20% different from the index is excessive. Judged on these standards a large number of property managers need to have a good look in the mirror! While some managers have been able to outperform even with such low active share, we can only but wonder how much better they would have done had they used a blank slate when constructing their portfolios!

Take care,

Mike Browne

021 914 4966

Tue, 28 Oct 2014- 09:46

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