Managed Fund Returns

Outperforming the market

Active fund managers attempt to provide higher returns than the market, adjusted for risk and fees charged. Because most markets are relatively efficient, this is not an easy task. However, FundSource believes that high quality active managers who apply coherent, disciplined investment strategies in a rigorous way have the potential to outperform the market over the long term.

  • Active management can potentially protect the portfolio against structural changes in the markets or catastrophic events. On the other hand, passive management is a captive of the underlying assumptions used in selecting the particular choice of assets (generally market capitalisation based). If these assumptions are flawed, passive management has no means to react to those flaws.
  • Active managers can take advantage of an expanded investment opportunity set (beyond what is contained in the index). For example, in international equities, active managers have added value by investing in emerging markets and small-to-medium sized companies that may not be represented in global equity indices.
  • Active managers can capitalise on market inefficiencies, rapid growth and change in investment markets.
  • Like all investment theories, the notion of market efficiency would be undermined if everyone believed it and only invested in index funds. Active managers are required to make the market efficient. They are incentivised by the prospect of making abnormal gains.

In saying this, actively managed funds are not for everyone. This is one of the fundamental advantages of investing in managed funds - the individual investor may invest in any one of a high number of funds that aim to meet their investing objectives.

Managed funds, whether active or passive, have been proven to provide a consistent long-term return on your investment. This is outlined below.

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Obtaining a consistent long-term return on your investment

Despite short term fluctuations in investment markets, economic fundamentals and the nature of risk-return relationship, the long term relative returns of the four main asset classes can be predicted with a reasonably high degree of confidence. In particular, after adjusting for inflation, an idea of the long term returns we can expect from each asset class is indicated in the following display.

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Performance between asset classes

History confirms both the above figures and the variance in returns between investment sectors. As the time frame for investment increases it is with a greater degree of confidence that we can say that these relationships hold true.

As an example, looking at the US bond and equity (share) markets going back to 1900;

  • Over rolling one year periods shares out-performed bonds 72% of the time
  • Over rolling five year periods shares out-performed bonds 89% of the time
  • Over rolling ten year periods shares out-performed bonds 99% of the time
  • Over rolling twenty year periods shares out-performed bonds 100% of the time.

Conversely over certain time horizons significant deviation from long term norms can occur often due to totally unexpected events, e.g. 1987 stock market crash, Iraqi invasion of Kuwait in August 1990, the Internet bubble collapse 1999-2000, the terrorist attacks on the United States in September 2001, and the GFC in 2008.

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The key to achieving your investment goals

FundSource believes that investors' long term objectives can be achieved over time through the careful structuring and tailoring of investor's portfolio asset allocations. Asset allocation is the relative share in a fund of the four investment assets described above - equities, property, fixed interest and cash.

Our confidence in this position is based on our understanding of the relationship between asset classes and our ability to forecast longer term structural themes within asset allocation strategies (for example a shift to a sustainable low inflation environment).

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Explanation of Total Return Variation

Website Chart

This graph illustrates that 91% of total return variation can be explained by asset allocation. This has provided an opportunity for professional fund managers to master this area of investing, thus to a large degree controlling return variation.

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Fund Managers are experts at effective asset allocation

A fundamental reason why fund managers are so effective at providing long term, consistent returns on investments is that they are so proficient at effective asset allocation. In mastering asset allocation, fund managers may control investment return variation to a certain degree.

Combining effective asset allocation with the inherent advantages of managed funds including professional management and stock selection, diversification, buying power and convenience, the reasons for investing in managed funds become very compelling.

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