Benefits of investing in a fund of funds

WHY NOT TO MIX: THERE’S VALUE IN NOT BLURRING ASSET ALLOCATION

Allocation, rather than manager selection, is the biggest driver in achieving return objectives: Old Mutual Wealth’s Roland Gräbe.

Over the last decade, SA investors have shown a clear preference for multi-asset, or balanced unit trusts. Over this period, the assets invested in these funds have shot up from R136 million to R916 million.

This is because investors have seen the benefits of diversified portfolios able to generate good returns, but with lower volatility than pure equity funds.

Also, many financial advisors have elected to hand difficult asset allocation decisions over to professional fund managers rather than try to do this themselves.

But there’s a complication. Investors and financial advisors have recognised that it is important to diversify across asset classes – also between fund managers. Many people have therefore built portfolios that include three or four different balanced funds.

But is this optimal? If you take four different balanced funds and mix them together, you may think you’re diversifying, but you could be cancelling out the benefit of having professional fund managers handle your allocation.

Individual balanced can look very different. A survey of SA’s ten largest multi-asset highequity funds bears this out. The table shows the range of asset allocations between these funds at end September.

It is clear that in every asset class there is a wide difference between the fund with the largest allocation, and that with the smallest.

Local listed property and cash holdings are the best examples of this. There’s a material difference between a fund holding over a sixth of its portfolio in cash, and funds one holding less than 4%. One can expect this to have a significant impact on the performance of these two funds. If you simply blended these funds together, however, you’d be taking away the opportunity to benefit from either manager’s asset allocation view. Over time, this is actually the major driver of investment returns.

This suggests investors wanting diversified exposure might be better off investing not across a range of different balanced funds, but with a single asset allocation specialist. This is where funds of funds come into their own.

Over the last few years a number of extremely good fund of funds managers have emerged in SA, and their products have been getting more recognition.

The first benefit of investing in a fund of funds is that the manager’s starting point is asset allocation. Second, a fund of funds manager has the ability to select the best/most appropriate managers within each asset class.

Ultimately this means the investor gets the benefit of diversification across both asset classes and managers within a single fund. They’ll also have the advantage of having a single asset allocation view and the ability to assess how that works over time, rather than having this blurred by the competing approaches of different multi-asset fund managers.

Extremely good managers have emerged in SA