Rid­ing out the storm

In tur­bu­lent times, in­dex track­ers are one strat­egy for pre­serv­ing wealth — but they’re no sil­ver bul­let, writes Jo­hann Barnard

Financial Mail - Investors Monthly - - Feature: Index Tracker Funds -

I n an un­usu­ally un­cer­tain world, are in­dex track­ers the an­swer to in­vestors’ con­cerns about pro­tect­ing their wealth? The short an­swer is “no”; the slightly more in­volved re­sponse is “maybe”.

The first an­swer is “no” be­cause in­dex track­ers do ex­actly what their name sug­gests — they track an in­dex. So if the bas­ket of shares in that in­dex falls, so do the in­vestor’s re­turns. Also, in­dex track­ers are a man­i­fes­ta­tion of the pas­sive in­vest­ment phi­los­o­phy that, in it­self, is no sil­ver bul­let for dodg­ing a mar­ket crash.

The “maybe” an­swer is valid if in­vest­ments into these track­ers are part of a di­ver­si­fied port­fo­lio that is bal­anced to pro­tect you against ex­po­sure to a sin­gle as­set class or mar­ket.

What strength­ens the ar­gu­ment is the grow­ing ease with which SA in­vestors can ac­cess off­shore mar­kets through glob­ally fo­cused funds. This has in­creased enor­mously as on­line plat­forms have launched and it has be­come eas­ier to in­vest in these types of funds with tra­di­tional man­agers.

How­ever, ease of ac­cess does prompt in­vest­ment ad­vis­ers and fund man­agers to re­mind us that par­tic­u­lar in­vest­ment strate­gies, cho­sen as­set classes or risk pro­files dif­fer from per­son to per­son.

But the grow­ing number and na­ture of in­dex track­ers do of­fer a cred­i­ble way to achieve some di­ver­si­fi­ca­tion. And in­vestors can do so at costs that are con­sid­er­ably lower and more at­trac­tive than we’ve be­come ac­cus­tomed to.

Ex­change traded funds (ETFs) are an es­pe­cially pop­u­lar way to buy into an in­dex tracker, though unit trusts of­fer sim­i­lar ben­e­fits and abil­ity.

“The de­fault an­swer al­ways is to be well di­ver­si­fied in times like this,” says Core­Shares MD Gareth Sto­bie. “As to whether you want to tac­ti­cally as­set-al­lo­cate be­cause of how you see pol­i­tics play­ing out, that is a dif­fi­cult call to make.

“Where pas­sive [in­vest­ing] does make life eas­ier is, for in­stance, in two global prod­ucts we launched late last year that trade on our lo­cal mar­ket in rand and are easy to ac­cess. So if you’re tak­ing a bear­ish view on the rand and want to get dol­lar ex­po­sure you can buy our S&P 500 fund and get all the di­ver­si­fi­ca­tion that brings.”

Zack Bezuiden­houdt, head of S&P Dow Jones In­dices for SA and sub-Sa­ha­ran Africa, sup­ports this view of pas­sive prod­ucts such as ETFs open­ing doors that were pre­vi­ously closed to SA re­tail in­vestors.

“We’re work­ing with a number of fund man­agers look­ing to roll out ETFs and unit trusts linked to global in­dices,” he says. “A number of as­set man­agers are rolling out new prod­ucts, es­pe­cially pas­sive, global prod­ucts, so we’ll prob­a­bly see these hit­ting the mar­ket in the next three to six months.”

Apart from of­fer­ing clear and sim­ple di­ver­si­fi­ca­tion, Bezuiden­houdt says the lower cost struc­ture of ETFs adds an ex­tra sparkle for in­vestors in a low-re­turn en­vi­ron­ment.

“What we saw in the Spiva [S&P In­dices Ver­sus Ac­tive] re­port is that, in this low-re­turn en­vi­ron­ment, the ma­jor­ity of ac­tive man­agers un­der­per­form the bench­mark be­cause in­vestors pay about half of their re­turn in fees.”

Bezuiden­houdt sug­gests that in­vestors take the time to un­der­stand the var­i­ous in­dices bet­ter and use this knowl­edge when find­ing in­dex track­ers.

He says one of the ben­e­fits of pas­sive funds is the lim­ited choice they of­fer. This al­lows in­vestors to get a bet­ter un­der­stand­ing of the avail­able in­dices so they can choose those that will help them achieve their in­vest­ment goals.

If noth­ing else, in­dex track­ers are use­ful be­cause they of­fer in­vestors choice in sec­tors that are gen­er­ally easy to un­der­stand.

As the in­dus­try has ma­tured, we’ve also seen more in­tel­li­gent prod­ucts ap­pear on the mar­ket that of­fer the same cost and in­dex track­ing ben­e­fits, but in a non-vanilla fash­ion.

Kings­ley Wil­liams, chief in­vest­ment of­fi­cer of in­dex­a­tion ca­pa­bil­ity at Old Mu­tual Cus­tomised Solutions, says this is best il­lus­trated through smart beta funds such as the Rafi 40 In­dex Fund and Global FTSE Rafi All World In­dex Feeder Fund.

“Those funds were de­signed to not in­vest in stocks that have run hard re­cently and that are trad­ing at ex­or­bi­tant mul­ti­ples,” he says. “An in­dex fund like Rafi will tend to be un­der­weight in those ex­pen­sive stocks. So, if you want to be more de­fen­sive with your in­vest­ment ap­proach, those in­dex-based solutions of­fer a great al­ter­na­tive.”

The up­shot of this ap­proach is that while the smart beta strat­egy is an in­dex fund with all its as­so­ci­ated ben­e­fits, it amounts to an ac­tive strat­egy rel­a­tive to the con­ven­tional mar­ket-cap in­dex ap­proach.

In the con­text of in­vestors’ con­cerns about pre­serv­ing wealth, in­dex track­ers ap­pear to make sense as one of the bas­ket of in­vest­ments or strate­gies that can be ap­plied. But a sil­ver bul­let they are not. One of the big­gest ad­van­tages is the abil­ity to gain broad off­shore ex­po­sure in a time when do­mes­tic con­di­tions are es­pe­cially un­cer­tain.

A number of as­set man­agers are rolling out new prod­ucts, es­pe­cially pas­sive, global prod­ucts

Zack Bezuiden­houdt

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