Financial Decisions | Views

Myth Busters

In a profession that allows us to meet people from different walks of life, either through meeting our clients to networking with industry experts and professionals, it is common to hear several beliefs that many people may assume are correct but may not otherwise be so.

In this edition of Views, we highlight two myths that seem to make the rounds.

Myth 1 – Going index is cheap

Until this year, we have had four years of stellar returns in many underlying market indices. Those investors that simply closed their eyes and placed their money into a low cost index fund might wonder why you would bother paying higher fees to make money. However, that idea misses a couple of important issues.

Firstly, in Australia, the median manager has consistently outperformed the index of almost 1.5% after fees over one to ten years. That is quite significant. However, in the United States, almost 75% of managers underperformed. As such, it is easy to throw the baby out with the bathwater when reading the papers as they tend to focus on the negatives.

Secondly, indexing usually only works well when markets are rising strongly. But what about the many other times when it goes sideways (such as the current market environment) or declining like the 2008-2009 period?

Our view

After having several good years of decent returns from the sharemarket, even some advisers believe that there is no use in having active management and falling into the pitfall that cheap is always better. Why? The tangibility of fees often makes it much easier to sell the product to clients. However, that does not mean it is suitable or appropriate for the current environment.

One of our jobs is to sort through the many managers and differentiate those that underperform and those that are likely to outperform in the future. That is no easy feat and there’s a lot of art as well as science that goes into allocating for the future. With careful consideration and discipline as well as a strong methodical process, we can increase your chance of doing better than the average. There are exceptional managers out there and finding them is one of the things you pay us to do on your behalf.

Indexing might make sense during some cycles but can be awful in other times. As usual, many market participants look through the rear-view mirror just as markets struggle to make any grounds. During these tough periods, we would argue that indexing is simply a cheap way of losing money.

Myth 2 – Fund size does not matter

It is well known in the funds management industry that the larger the fund, the more difficult it is for fund managers to outperform their respective benchmark. This is due to the fact that their universe becomes smaller as they have to focus more and more on the larger companies. However, most of the outperformance from managers is usually made from mid and smaller sized companies where they may be under-researched and there’s more likelihood of a larger discrepancy between the price you pay and the underlying value you are getting from the investment.

Our view

The recent proliferation of boutique managers confirms this view. Astute managers who know how to get outperformance tend to start their own shop with much smaller sums when the fund they have been managing gets too large. When a fund has too much money to allocate efficiently and strategically, they tend to gravitate towards the large companies where liquidity is ample and they are able to get out of a position quickly. As the fund grows, they tend to become more and more “index-like”, that is, the returns they get tend to gravitate very closely around the index. It is understandable that with this performance, investors would question why they should pay to get index like performance. This has assisted the staggering inflows index funds and ETFs (Exchange Traded Funds) have been seeing over the past couple of years.

We believe that some good boutique managers have a chance to truly outpace the markets consistently over time. Fund managers can only make a name for themselves by providing strong returns over time. When this happens, they naturally attract investors and their funds and firm grows. While this is good for them, over many years, it becomes less attractive for the clients as their returns start to lean towards the mean. We recognise this and therefore are always on the lookout for strong proven managers who have branched out on their own. In the funds management industry, it is often better to follow the people rather than the money.


To better appreciate the process and understand why we have chosen a particular investment path and product that we believe is most appropriate for your portfolio, please do not hesitate to discuss this with your Financial Decisions adviser.



Disclaimer: This publication has been compiled by Financial Decisions (AFSL/ACL Number 341678). Past performance is not a reliable indicator of future performance. While every effort has been taken to ensure that the assumptions on which the outlooks given in this publication are based on reasonable data, the outlooks may be based on incorrect assumptions or may not take into account known or unknown risk and uncertainties. Material contained in this publication is an overview or summary only and it should not be considered a comprehensive statement on any matter nor relied upon as such. The information and any advice in this publication do not take into account your personal objectives, financial situation or needs. Therefore you should consider its appropriateness having regard to these factors before acting on it. While the information contained in this publication is based on information obtained from sources believed to be reliable, it has not been independently verified. To the maximum extent permitted by law: (a) no guarantee, representation or warranty is given that any information or advice in this publication is complete, accurate, up-to-date or fit for any purpose; and (b) Financial Decisions nor its employees are in any way liable to you (including for negligence) in respect of any reliance upon such information or advice. August 2016

Contact: Financial Decisions PO Box 484 Mona Vale NSW 1660, T 02 9997 4647, F 02 9997 7407