Problems with changing horses
Thursday, May 12th 2005, 1:48AM 
2 Comments
Two stories recently run on Good Returns aptly illustrate the life of a managed fund. The first is the story we ran a week ago about a fund manager who ventured off on his own to set up a fund under his own steam, the other is about a fund which got so big it had to change the rules it operated under.
The first is the story of the JB Were Emerging Leaders Trust which invested in small and mid cap ASX listed stocks. This fund was well-supported by advisers and investors as it had a clear focus and manager who got runs on the board. Because of its success it grew quickly and a decision was made a number of years ago to - quite rightly - close the fund to new investments.
There were concerns that the fund had got too big and the interests of the company became misaligned with that of the actual people running the fund.
Last year the manager - Steve Black - left Goldman Sachs JB Were and set up what he calls a Mark 2 version of the fund under the Pengana banner. A key characteristic of this fund is that it is capped and once it gets to a certain size no new money will be accepted.
Black says this means that he can stick to his investment style and deliver what he promises to investors. If a fund which specialises in small and mid-cap stocks gets too large it can lose the ability to deliver good returns.
The second story is the Fisher Funds one where the company has changed its mandate almost arbitrarily allowing it to invest in unlisted companies and Top 10 stocks.
It shows how fund managers can change their rules at whim to suit themselves.
I don't doubt that the arguments put up by the company have some validity. What I question - and this has happened many times before - is that someone invests in a fund buying a certain "style". Suddenly without warning the manager says, nope we don't do it that way any more, we're going to do it this way.
Many people are not impressed with the way it has been handled, and secondly the investor suddenly is owning something which they didn't buy.
The manager can say well if you don't like the changes vote with your feet and get out. That doesn't sound like good customer service.
In some ways the change is Fisher Funds being a victim of its own success.
Fisher Funds has been successful raising money, and because it takes big bets in a smallish universe of funds, it was running into a problem of where to put investors money. (We wrote about this a while back).
The answer, in Fisher Funds' view, was to broaden its mandate and go into two areas which can be hard to find value. The large cap end of town is so well-researched that big gains are hard to come by, and the unlisted end is the opposite. There is no research and the manager needs more resources to analyse opportunities.
My view is that if Fisher wanted to make these changes then they should have closed the current fund, keeping its mandate in place and started a new fund.
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Comments from our readers
That was an interesting point about the fund getting too big that no more investors could invest or it wouldn't produce good returns. It made me think about the social security reform proposal about privatizing accounts. Could that possibly happen when the babyboomer generation starts to invest in the government referred funds. Just a thought. This has sparked me to look around to find out more information about that issue. Thanks for the interesting article.
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I have great sympathy with the investors in funds which change at the drop of a hat. In South Africa there is a similar situation where the top performing manager has achieved this success mainly by following a 'value' style and buying undevalued, neglected and/or distressed small cap shares the total market capitalisation of which is 150m on the JSE (1.5bn Total). Now that the managers asset base has grown to 70m they are unable to follow their small cap bias and are being forced upstream into mid and large cap shares.
This highlights the fact that the manager does not usually know in advance what the maximum potential size of his/or her niche is although it becomes obvious with hindsight.More often though funds are closed because they a) underperform or b) fail to reach an economic size which is usually a minimum of 100m or so since this is the minimum level of assets needed to support an investment team's expenses. Although some companys will subsidise smaller funds they will always be vulnerable to closure.
Investors share some of the blame for the success of failure of funds to the extent that they are trend or fad followers. When value, growth, IT or any other identified trend is outperforming, investors tend to flock to that particular style/niche and the out of favour funds are either forced to change their mandates or lose assets.
These trends are usually excacerbated by the media but are in general a refelection of our quick fix society and too-short investment horizons.The Value/Growth cycle appears to be largely an artifact of the underlying business cycle and rarely persists for more than 3 - 5 years. (As the economic cycle starts to peak and interest rates start to fall, investors tend to go on the hunt for yield/growth opportunities.
This also explains why the 'growth' phenomenon is shorter lived as it typically represents just a 1-2 year window at the peak of the 4 -5 (sometimes 10)year economic cycle.