Questions to ask fund managers - Investment management

Fund management can seem daunting – yet investors and financial advisers must drill down into a manager’s investment philosophy and process.  You need to be armed with the right questions, which means having a framework for understanding manager activities and structure. 
In last month’s commentary we looked at fund manager “infrastructure” and broke it into four parts – People, Process, Price and Published Information.  This month we look at the “investment” side and again break it into four parts – Philosophy, Product, Portfolio and Performance.  This gives us a framework for asking the right questions.

Philosophy
Before you invest in a fund you need to understand the manager’s overall investment philosophy.  Historically this discussion has been simplified to “active or passive” – but this binary approach is no longer appropriate.  Investors should recognise that plenty of investment philosophies sit between purely index (passive) at one extreme and high conviction stock picking (active) at the other.

By way of example – how do you classify a fund using a rules based process to pick 100 stocks from the S&P500 that have the best valuation,  momentum or dividend metrics?  It’s not a traditional active fund, but equally not a purely passive fund.  What if the manager then overlays active currency hedging back to NZ$ and active downside protection strategies – is that something different again?  This fund is indeed active,  but not in a conventional stock picking way.

Manager philosophy discussions need to be broader than simply considering the active/passive continuum.  Philosophy covers many things – and be sure to ask how this impacts on the investor experience.  For example:
- Time horizon philosophy:  investing for longer time horizons can give more certainty than shorter horizons.  Impact - the manager does not look to trade positions over days, weeks or months, but looks at horizons of over a year.
- Investor preferences philosophy:  the pain investors feel from a $100 loss is much greater than the satisfaction investors feel from a $100 gain.  Impact - this asymmetric investor experience means the manager focuses on downside protection.