It’s not just about performance

TOP EQUITY FUNDS: THERE’S MORE TO IT THAN JUST HISTORICAL RETURNS

While volatility in itself isn’t a risk, it can cause risky investor behaviour. Moneyweb

For most investors, past performance is tops when evaluating a unit trust. This is problematic. Past performance doesn’t guarantee future returns and simply looking at performance doesn’t tell you how the fund got there. This is particularly true for equity funds and their longer-term returns.

For example, over the past three years the Investec Value Fund and Satrix Momentum Index Fund are two of the top-performing SA general equity unit trusts. Yet, they’re almost polar opposites in their strategies and journeys.

While the Investec Value Fund is currently the top performer over this period, its returns have been extremely volatile. It’s been the most volatile of all local equity funds in this time. The fund’s deep-value strategy means it’s prone to these swings between severe under-performance and sharp spikes of rapid gains.

An informed investor who expects this kind of volatility and is happy to hold the fund long term will be able to sit these out. But someone who doesn’t understand this strategy and invests purely because the fund is currently a top performer, is likely to get caught unprepared.

When they experience a period of under-performance they may think the fund isn’t doing what it should. This is what leads to investors making emotional decisions, withdrawing funds at the wrong time and locking in losses. Hence, investors must pay attention not only to a fund’s return, but also its strategy and return profile. Volatility is a big part of this.

The table shows the top-10 performing SA general equity funds over the three years to November 1, 2017.

This shows how extreme the Investec Value Fund’s volatility has been. It’s more than double any top 10 fund. While volatility in itself isn’t a risk, it’s a risk to investor behaviour.

The Aylett Equity Prescient Fund shows the lowest three-year standard deviation of any of the top 20 performers over this period. Not only has it not delivered a negative return in any year over the last five, it’s also avoided large drawdowns. This is significant because large losses tend to spook investors into selling, and because by minimising drawdowns a manager must also take less risk on the upside to recover.

The Aylett fund’s worst oneyear return was -19.2%, during the 2008 financial crisis. The Investec Value Fund’s lowest one-year return is more than double that at -42%. This isn’t to say one fund is ‘better’ than the other, but that when investors choose funds they must know what they’re buying. There may be very good reason for basing this selection on more than just performance.

This isn’t to say one fund is ‘better’ than the other, but that when investors choose funds they must know what they’re buying.