Page 112 - Profile's Unit Trusts and Collective Investments 2021 issue 2

CHAPTER 6

Fund Manager Risk
The performance of any collective investment scheme is at least partly dependent on the
decisions made by the portfolio manager. This is more true of aggressive funds and flexible multi
asset funds, and obviously less true of conservative funds with rigid mandates.
As in any sphere of human endeavour – be it athletics or asset management – some people have
more talent than others. One way of achieving superior returnsvia collectiveinvestmentsisto follow
the star of a talented portfolio manager. Certainly, some fund managers seem to have a particular
talent for stock picking or market timing, and backing the next “Warren Buffet” could, of course, lead
to superior returns. But the risk is that the next “Warren Buffet” turns out to be the next “Oliver Hill”.
The problem, of course, is that there is no guarantee that a particular portfolio manager’s
talents will stand up under all market conditions. Increasing an investor’s reliance on the skills of a
particular fund manager exposes the investor to the risk of that fund manager failing to perform.
Diversification is, again, the easiest way to reduce fund manager risk. Fund manager risk can be
ameliorated by opting for a multi-manager investment option, or by investing in two or three
different funds with different management styles.
Organisational and Asset Risk
One aspect of organisational risk is the danger of a fund manager going out of business or
deliberately defrauding investors. While one shouldn’t dismiss this entirely, the collective
investments industry is well regulated and there is little chance of investors losing money through
fraud or insolvency if they are invested in FSCA-registered funds.
Asset risk is the danger of insolvencies within a fund’s portfolio. The delisting of African Bank
(Abil) in 2014 brought this home to the local market. An asset that has to be written off clearly has a
negative impact on performance. In the case of Abil, which was rescued from insolvency but could no
longer be traded, unit trust holdings in the company had to be ring-fenced via a process known as
side-pocketing. After side-pocketing investors selling unit trusts are left with partial holdings that
are “frozen“ until further notice – in effect, part of the investor’s value cannot be redeemed.
Another aspect of organisational risk relates to the impact of high-level policy decisions,
mergers, changes of ownership or major staff movements.
Collective investment schemes are, theoretically, outside of this activity, but there is no doubt
that performance tends to suffer when the umbrella body is in a state of flux.
Asset management teams often report to a controlling life house or institution, and the culture
and management style of the “parent body” can have a considerable impact on the long-term
performance of a fund. A good asset management company needs to have a clear and consistent
philosophy, stability of staff, good administrative systems, a research capability and a long-term
commitment to the industry. On the other hand, an asset management company cannot afford to
become staid and inflexible, offering no career path to younger fund managers.
One way to judge organisational risk is through the way in which the company deals with
investors. If service levels are poor and reports are late, there is every chance that the same poor
standards are tolerated in the asset management division.

Liquidity Risk
Liquidity risk refers to both the liquidity of the cash component of the fund and the liquidity of
the stocks in the fund. The latter is a more technical issue which generally only needs to be
considered for small, focused funds. For example, smaller JSE companies tend to be relatively
illiquid (ie, their shares can be difficult to sell quickly), which makes it difficult for small cap fund
managers to adjust portfolios if small cap stocks fall out of favour, as they did in 1999. Some larger
companies are also tightly held and a fund heavily invested in illiquid shares might find itself
relatively “locked in” in a bear phase.
The issue of liquidity levels within funds is a more important one. Collective investment
schemes, even those classified within the same sectors, sometimes have different mandates with
regard to their overall liquidity levels. Some mandates require the fund managers to be as fully
invested as possible, while others are permitted to operate within the requirements of the ASISA

110 Profile’s Unit Trusts & Collective Investments — Understanding Unit Trusts