The unreal world of real return funds
surrealist artist Salvador Dalí’s juxtaposition of a lobster and telephone creates a startling image, try this for real world surrealism. One unit trust fund provides a positive return of 16,2% over the past difficult year; another unit trust in the same category posts a negative 26,7%.
What takes that comparison into Dalí’s ethereal world is that both funds are meant to provide investors with a return a few percentage points above inflation. It seems simple. So how do two unit trusts making similar promises end up with vastly different returns?
You guessed it: it’s the world of targeted, absolute and real return unit trusts. I’ve long been critical of the concept behind those funds. Some of the funds I believe are well managed; some are pretty good funds. My criticism is rather with the marketing machine – promising a low-risk return above inflation is a great selling point – and with the advice that has many investors in such funds when they should be in something else (most likely with a lower fee structure).
Any investment fund should be aiming at giving clients a real return. A pure equities fund will achieve that over longer periods of time and investors should understand there will be periods, such as the past year, when the fund shows negative returns.
That’s where real return funds are meant to ease investors’ anxiety. The implicit understanding is that the fund will be conservatively managed to meet its stated benchmark, anywhere from two basis points to around six basis points above inflation.
So apart from the two extreme examples above, are these funds living up to their inflation-beating promises? Look at the past year. Taking a 10% return as a low target (most benchmarks will be pitched higher), only nine of the 60 unit trusts listed in the category beat 10% (readers can see the numbers on the unit trust page at the back of this issue). So much for providing a real return.
But I can hear howls of protest. Last year was one of the more difficult seen in investment markets and most of those funds set benchmarks over a three-year rolling period. Fair enough – even though a period of three years is a very flexible mandate and not good for the nerves of the types of investors who should be in these funds.
Let’s look at three years and lower the target to 8%. Of the 39 funds that have been around for more than three years, 18 have beaten 8%. Again, far from a real return for most investors in these funds.
The rapid growth in the number of real return funds also shows how popular they are as a marketing tool. And cautious financial advisers (they’re all cautious nowadays with the potential threat of personal liability for bad advice) often see them as the ideal product for clients. They probably can’t get sued for putting clients into a fund that promises a real return and, if it doesn’t, don’t blame me, blame the fund manager. That’s why so many investors who shouldn’t be in real return funds are herded into the products anyway.
So if three years aren’t enough to see these funds providing the promised real return, how much time is enough? Pictures of Dalí’s timeless melting clocks come to mind.
Dalí was good at coming up with quotable quotes and here’s one that’s appropriate: “If one understands one’s painting in advance, one might as well not paint anything.”
While there are some excellent real return fund managers (even if they’re managing for the wrong clients), Dalí’s quote could apply to the surrealist bunch on the fringe. Something like: if we understand in advance the benchmark is CPI plus 2%, why manage the fund at all? Let’s do something different – shoot out the lights, even at the risk of scoring a lower return than the allshare index.