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Asset managers: Investing strategies, expectations and fees

Jun 08 2018 15:51
Kirk Swart

Each asset manager has a different view and conviction on the market and how to structure a fund or portfolio. It is very important for clients to understand the views of the asset manager and buy into their strategy to secure a successful relationship.

Asset Managers go through a vigorous process before investing in a share or asset. A lot of effort, research and time goes into making each investment decision. Asset managers have a wide spectrum of asset classes to invest in. Typically, asset managers can invest clients’ funds in equities, bonds, money market instruments, preference shares and property.

Each of these asset classes have their own unique characteristics and risk/return profiles. Depending on the portfolio mandate (full equity, balanced, income, etc), asset managers allocate funds to the various asset classes to achieve their desired outcome.

How do asset managers invest?


Each asset manager has a different view and conviction on the market and how to structure a fund or portfolio. It is very important for clients to understand the views of the asset manager and buy into their strategy to secure a successful relationship. Asset Managers go through a vigorous process before investing in a share or asset.

A lot of effort, research and time goes into making each investment decision. Asset managers have a wide spectrum of asset classes to invest in. Typically, asset managers can invest clients’ funds in equities, bonds, money market instruments, preference shares and property.

Each of these asset classes have their own unique characteristics and risk/return profiles. Depending on the portfolio mandate (full equity, balanced, income, etc), asset managers allocate funds to the various asset classes to achieve their desired outcome.

Strategies of asset managers

Asset Managers have various strategies of investing. The strategies are not mutually exclusive as asset managers can make use of more than one strategy in their portfolio. Below is a list of strategies asset managers make use of:

• Growth: Managers that follow a growth strategy of investing will invest in companies that deliver above average returns despite the share price being expensive. The managers believe that the aggressive growth that these companies show, more than justifies the expensive price.

• Value: Value investing is a strategy in which shares are selected that appear to be trading below its intrinsic value. This style of investing was made famous by Benjamin Graham in his book the Intelligent Investor. Warren Buffett realised that Value investing needed to be expanded. He expanded Value Investing to “buy a wonderful business at a fair price, not a fair business at a wonderful price.

• Growth at a Reasonable Price (GARP): This style of investing combines both characteristics of Growth and Value investing. Managers will invest in companies that deliver good earnings growth at a reasonable price. This famous investor, Peter Lynch, introduced the concept of GARP. One of the tools he uses is the PEG ratio in which the PE ratio gets compared to the earnings growth rate.

• Index Tracking: Index trackers are used to track the broader market index. By investing in index tracking funds, investors aim to reduce costs but are not aiming to outperform the market.

• Quantitative Investing: With this style of investing, managers aim to achieve returns by using computer based models that use algorithms to track price and profitability. These models tend to work well when back testing them. However, success with the actual application is still debatable. A famous quant model is the Black-Scholes option pricing model.

Benchmark and fees

To manage clients' portfolios asset managers charge a fee that usually gets taken every quarter. Clients’ needs to take note of the fees applicable. In some instances, managers charge performance fees for outperformance of their chosen benchmark. Performance fees are more common in the hedge fund industry.

The benefit of managers aiming to beat a set benchmark is up for debate. Some managers are so afraid of underperforming their chosen benchmark that they become “benchmark huggers”. This will lead to clients paying for active management but receiving passive management.

Return expectations

When meeting with clients in initial meetings one often hears that clients expect the stock market to return around 15% per annum. Yes, it is true that some asset managers did achieve returns like those in the past and will do so again in the future.

However, the industry needs to place more emphasis on what happens in between. It is very important that client expectations are managed. To make a point in case. The JSE have been stuck in a sideways band since around 2014. For clients drawing money from their investments, it meant that they had to eat into their capital. This is especially disappointing for clients who are expecting around 15% per annum.

Another unfortunate fact is that the average South African does not save enough to maintain their lifestyle upon retirement. If one enters a low or no growth period whilst drawing an income, those income drawdowns will need to be adjusted. Maintaining your lifestyle when the markets do not allow it, will cause financial disaster.

For example. If your portfolio shows zero growth for three years and you draw around 6% per annum with an inflationary increase of 6% per annum, the portfolio will have to increase by 35% in the fourth year to be back at the starting capital amount. It is important that investors build in a margin of safety into their savings.

*Kirk Swart is an analyst at Overberg Asset Management, an Authorised Financial Services Provider (No 783) which specialises in the private management of local and global discretionary portfolios as well as pension products.

Disclaimer:
The above article does not constitute financial advice and is not a recommendation. Investors must always seek the advice of professionals and trade with caution. Under the ECT Act and to the fullest extent possible under the applicable law, Fin24 disclaims all responsibility or liability for any damages whatsoever resulting from the use of this site in any manner.

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