RA 101: Active vs Passive (Part 2 of 4)

In part two of four, Magda Wierzycka does the math and arrives at a conclusion that shouldn’t be a surprise...

In the last instalment, I argued that an investor only had to consider and answer three questions when choosing an RA: do they need (or want) to use a financial advisor, what investment strategy should they adopt and which RA should they choose (here, the central factor to consider is cost).

Now we’ll dig into the true, underlying cost implications of an active versus a passive investment strategy. The results may surprise you (although they shouldn’t).

AN ACTIVE INVESTMENT STRATEGY

Most investors – professional and otherwise – make their unit trust choices based on past performance. To simplify this analysis, I have therefore focused on four leading multi-asset class unit trusts with a similar high- to medium-risk profile, a strategy most suited to the average long-term investor. The four selected managers are: Allan Gray, Coronation, Foord and Investec Asset Management. I have also assumed that an average investor would be happy to split his assets between these four asset managers in equal proportions (an approach favoured by many a financial advisor).

The cost component of each unit trust is based on the latest disclosed total expense ratio (TER). The TER is a better illustration of cost than standard quoted management fees as it includes performance fees, VAT and the other hidden costs of investing in a unit trust. Asset managers are obliged to publish TERs alongside their management fee disclosures. For all intents and purposes, the TER is as close as an investor will get to establishing the true cost of an investment.

*Data source: Profile

Data Notes on calculations:*

• All returns are based on the standard unit class available to retail investors. (A or R Class)

• It is assumed that the total strategy returns were achieved by regularly rebalancing the overall strategy to equal weights to each of the four unit trusts.

A PASSIVE OR INDEX-TRACKING INVESTMENT STRATEGY

The alternative to investing in an active-managed unit trust is to choose a multi-asset-class passive index-tracking unit trust which charges a low basic management fee and no performance fees. Index-tracking unit trusts are not Exchange Traded Funds (ETFs) – this is not often understood. My previous analysis of ETFs should have made most investors very wary of investing in something as complex and costly as an ETF in an effort to access index tracking. For the purposes of this calculation, I’ve also assumed that investors are unlikely to split their investments among several index-trackers.

It’s also important to bear in mind that the current index-tracking multi-asset-class unit trust universe in South Africa is very limited. Effectively there are three providers: Satrix, 10x and Sygnia.



• The Satrix unit trust does not have a six-month track record (required to accurately calculate the TER). Satrix discloses that it charges additional fees for the international portion of their unit trust. It also invests in its own ETFs, which carry an additional tier of fees. Sygnia and 10x do not charge additional fees. Hence it is likely that Sygnia’s and 10x’s TERs will be lower than Satrix’s TER over time.

** The Sygnia Skeleton Balanced 70 Fund does not have a 10-year performance track record. Where not available, the performance is based on the performance of the market indices tracked by the fund.

Since the Satrix Balanced Index Fund is a newly launched product and does not have a performance series associated with it, it has largely been ignored in the cost analysis. Both Sygnia and 10x offer investors a range of index-tracking risk-profiled balanced products. Sygnia offers unit trusts, whereas 10x manages specific investment funds linked to their RA. The investment strategies chosen for comparison purposes are the high- to moderate-risk multi-asset class funds most comparable to the active unit trusts discussed above.

THE NET-OF-COST PERFORMANCE COMPARISON

Investment strategies are an expression of personal preferences and biases. However, the moment you look at the longer-term performance numbers on a net-of-cost basis, the argument for active management becomes less persuasive. This has been the case both in South Africa and globally.

Far too often, investors make the mistake of judging and comparing performance without taking costs into account. If you’ve answered the three questions you need to when choosing an RA, and if you’ve weighed up the active vs passive approaches, all that remains is selecting the right RA.

More on that next week!

• Magda Wierzycka is chief executive officer of Sygnia Asset Management. This is the second in a four-part comprehensive analysis of costs across some of South Africa’s leading financial services providers in which she presents a compelling case for a carefully-chosen RA, underpinned by an index-tracking investment strategy.