In the last 6 parts of this special series, i Capital provided a detailed analysis of closed-end funds (CEF) and unit trust funds (UTF), elucidating what they are, how they work, their regulatory framework, how they are marketed, their past performance, and their unique characteristics. This week, we will conclude this series on collective investments schemes. Common examples of collective investment schemes (CIS) would be unit trust funds (UTF) and closed-end funds (CEF). The ordinary Malaysian investor would have plenty of experience with UTF but few would be familiar with CEF. Table 1 summarises some of the salient characteristics of CEFs versus UTFs.
[h]. What drives performance?
Having established CEFs as a superior investment vehicle, how does one then determine which CEFs would offer superior returns? Looking at Table 2, we see a huge difference between the returns generated from the top performing CEF and the average performer, on both NAV and market value return. A critical question to ask then is what drives performance?
Ceteris paribus, it is the skill and ability of the fund manager that differentiates a superior fund from an average fund. If you have a lousy fund manager, then the CEF will not perform. But if the CEF has a top performing fund manager, the CEF will produce top class performance. Furthermore, the track record of any CEF would essentially belong to a specific fund manager. If the fund manager leaves, then the track record of the CEF actually follows the fund manager. It is therefore imperative that an investor knows whom the CEF?s track record belongs to before investing.
An immediate filter that is commonly used to identify a top performing fund manager is his/her track record. Investors always invest based on past performances, but as we all know past performance is not a guarantee of future performance. What is important to investors is how the fund manager can ensure future investment success and how first-rate performances can be repeated. In essence, fund managers can achieve these goals only by providing a total commitment and having a sound and rational investment framework.
But how do you identify a fund manager with total commitment? For a start, an independent structure is very important as this prevents conflicts of interest. Many fund management companies are usually part of large financial groups who may have, amongst others, a stock broking arm, a unit trust management company and a merchant bank. In such groupings, there are many interests and sources of income to look after, and it is unclear where the loyalties lie. In contrast, for an independent fund manager with only one source of income, the focus and loyalty to its clients is very clear.
Sound Investment framework and philosophy
In the fund management industry, the size of the fund managed and the set up tell nothing about the investment performance. It is actually the grey matter that matters. It is the investing philosophy and the organisational structure that truly differentiates a good fund manager from a lousy fund manager.