By MARCEL PORCHERON 08/01/2008
Asian Funds: a challenge to research
As researchers at Bestinvest we are tasked with uncovering the best fund managers available to investors. Essentially we look for fund managers with track records of beating their markets and where we believe there is evidence that they are likely to continue to add value for investors. However, sorting the really good fund managers from those who are outperforming through luck can be difficult and headline performance numbers can mask what is really happening in a fund. A look at the distinct challenges posed by Asia is a good example of this.
Japan
For a long time Japan has posed a real challenge to investors. The market is volatile and has been in structural decline for years. This combination has proved notoriously difficult for fund managers who invest on fundamental principles. Recommended funds like Schroder Tokyo, Martin Currie Japan and Fidelity Japan are run by managers or supported by teams that have proven track records of outperforming the index over the long term. In each of these cases we are able to track records of consistent out performance for well over a decade. However, in the short term the Japanese market has a tendency to whipsaw aggressively and this can make analysis of a fund manager’s skill much more difficult.
To overcome this we base our rating of investment funds on as much evidence as possible: usually we look for long term track records of value added where the process is likely to be repeatable in future. More recently, other funds in Japan have outperformed and in many cases we believe that this is purely by being positioned much closer to the Japanese equity index, often by luck not skill. We constantly review our recommended funds and have met many competitor funds on the market that we do not rate. Based on our investment principles we believe that our recommended list compares favourably to the rest of the market for investors who want long term exposure.
The Bestinvest Manager Record Index (MRI), which measures the likelihood that a fund manager is adding value through their decisions. The higher the percentage score the more confident we can be in a manager’s abilities. A score over 90% over 5 years, for example, would give us a high degree of confidence that the manager is outperforming through skill.
This graph shows that the average Asian equity manager (based on a simple average score for the sector) is more likely to be adding value than in Japan. In Japan it is much more difficult to find managers where we have a high degree of confidence that they are consistently adding value. Over a shorter period, for example three years, even Japanese equity managers with good long term track records can look poor, but in Asia a high long term MRI is more likely to be consistent with a short term MRI. As the graph above demonstrates, there is a more aggressive decline in manager MRIs over shorter periods in Japan. As a result we tend to favour the few managers in Japan where we have a higher degree of conviction over the long term.
As a generalisation, in Asia the average fund has mostly outperformed the stock market but the reverse is true in Japan, where the average fund under performed in each of the last 5 years!
Asia excluding Japan
The rest of Asia has presented a totally different challenge for fund selectors: the region boasts a very rich selection of fund managers. Asian equity markets have experienced something of a golden period following recovery from the Asian financial crisis. The region’s economies have grown strongly even as Japan’s mature economy has stuttered along and China’s move towards a more market based model has seen its equity indices rise very strongly.
Against this background a number of equity managers in the region have seen their style of investing come into a favour and a large number of managers now boast excellent track records even when adjusted for risk using the Bestinvest MRI. The biggest beneficiaries have been the more growth orientated fund managers in style terms.
The difficulty in this environment has been sorting the managers who are really adding value for their investors from those who are just rising with the tide. The managers with a growth orientated style have been challenging to evaluate. For example, we have been reluctant to increase our rating of Fidelity South East Asia run by Allan Liu. For roughly the first eight years of his career Liu did not consistently add value against the benchmark, whilst competitor funds were able to. It's only more recently that his relative and risk adjusted performance have looked better and we would expect his excess returns to revert back towards the benchmark over time.
Allan Liu’s long term track record.
Conclusion
We would remind investors that when they look at other companies’ research they should also consider how frequently these companies 'turn over' their buy list. We recommend funds for the long term and we also remain cogniscent of the costs and risk to relative performance that excessive switching between funds can entail.
Finally we are keen to maintain the best possible selection of funds and we have travelled to Asia to meet the managers we recommend and those we do not. Our size and reputation continue to ensure that we have direct and regular contact with some of the most respected and senior fund mangers in Asia and Japan. We believe this is a significant competitive advantage for us and our clients. Overall we hope to offer investors a selection of funds that meet our stringent investment criteria.