Cover Story: Is bigger better?

This article first appeared in Personal Wealth, The Edge Malaysia Weekly, on August 6, 2018 - August 12, 2018.
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There is a common perception among retail investors that the larger asset management companies tend to outperform their smaller counterparts in the market. The general opinion is that only fund houses that have the capital to market their products and a strong agency force to distribute their products would have a good track record when it comes to delivering returns to their customers.

However, data provided by investment research and management firm Morningstar Inc show that this may not always be the case. Personal Wealth looks at the three and five-year performance (as at Dec 31, 2017) of Malaysian equity unit trust funds across three categories — those that invest in large-cap, mid-to-small-cap and income stocks.

The data show that the top-performing unit trusts of large fund houses outperformed those of their mid-sized and small counterparts during the periods under review, especially in the large-cap equity category. However, the top funds of some mid-sized and small firms performed better in the mid-to-small-cap equity category. According to fund managers, mid-sized fund houses have about RM1 billion to RM10 billion under management while small fund houses manage less than RM1 billion.

The top three performers in the large-cap category over the past three years were InterPac Dynamic Equity, Manulife Investment Regular Savings and Affin Hwang Select Opportunity. The three funds generated cumulative returns of 56%, 35.12% and 32.55% respectively. They were followed by Public Strategic Growth (29.03%) and AmMalaysia Equity (26.99%).

The top-performing large-cap funds over the past five years were Affin Hwang Select Opportunity, which saw a cumulative return of 64.96%, Eastspring Investments Growth (55.8%), AmMalaysia Equity (53.61%), InterPac Dynamic Equity (46.23%) and Manulife Investment Regular Savings (44.94%).

However, the picture looks somewhat different in the mid-to-small-cap equity space, where the mid-sized and small fund houses outperformed their larger peers. The top three performers in this category for the past three years were Areca Equity TRUST, Phillip Master Equity Growth  and Eastspring Investments Small-cap, which generated cumulative returns of 60.57%, 55.06% and 53.83% respectively. They were followed by Kenanga Growth (52.07%) and Kenanga Malaysian Inc (50.83%).

The top funds in the mid-to-small-cap category over the past five years were Eastspring Investments Small-cap, which saw a cumulative return of 194.18%, Eastspring MY Focus (117.76%), KAF Vision Fund (112.03%), Areca Equity Trust (112.6%) and Kenanga Growth (110.03%).

In the income category, the results were mixed. The top three performing funds in the past three years were Hong Leong Dividend, Libra DividendExtra Fund and Affin Hwang Select Dividend, which generated cumulative returns of 44.72%, 39.36% and 32.41% respectively. They were followed by Eastspring Investments Equity Income (31.36%) and AMB Dividend Trust (23.44%).

The outperformers in the income category for the past five years were Eastspring Investments Equity Income, which saw a cumulative return of 62.33%, Libra DividendExtra Fund (61.22%), Hong Leong Dividend (57.79%), Affin Hwang Select Dividend (57.24%) and AMB Dividend Trust (46.87%).

It is essential to note that this analysis is on the top three unit trusts of most fund houses in the Malaysian equity universe. Fund houses that did not perform well in this universe may have performed better in other asset classes or regions.

The six largest fund houses by assets under management (AUM) as at end-2017 were Public Mutual Bhd (RM81.44 billion), CIMB-Principal Asset Management Bhd (RM74 billion), Affin Hwang Asset Management Bhd (RM55.1 billion), RHB Asset Management Bhd (RM47.37 billion), Eastspring Investments Bhd (RM39.8 billion) and AmInvest (RM36.1 billion), the asset management arm of AmBank Group.


Fund size matters

There are several reasons big fund houses tend to perform better in the large-cap category while smaller fund houses do well in the mid-to-small-cap space, says Areca Capital Sdn Bhd CEO Danny Wong.

For one, big fund houses tend to manage large funds. And the larger the fund, the more it would benefit from a large-cap stock rally. (According to Wong, large funds have about RM1 billion under management while small funds manage RM300 million or less.)

These rallies occur when market sentiment turns defensive and investors start pouring money into large-cap stocks, which have stronger fundamentals, more visible earnings and stable dividend payouts. The manager of a big fund would have sufficient capital to deploy into the market to snap up large-cap stocks, which tend to be more expensive than other types of stocks.

On the other hand, smaller funds are better positioned to ride the mid-to-small-cap stock rally, says Wong. These funds also provide their managers more flexibility to move in and out of the market faster, which means selling or buying shares quickly at the desired price when market sentiment changes.

For instance, say the manager of a RM1 billion fund spots an opportunity to buy into a small-cap company and wants to allocate 5% of his portfolio to the stock, he would find it extremely challenging to do so, says Wong. “The fund manager cannot do that. How can he buy 50 million shares on the open market without pushing the share price up? Or sell without pushing it down? The share price would move against him.”

By comparison, the manager of a RM300 million fund could easily buy 15 million shares of the small-cap company and allocate 5% of his portfolio to the stock. He could also trade the stock without moving the share price against him. “Industry players say smaller funds are more nimble,” notes Wong.

Richard Cheong, vice-president of investment at Phillip Mutual Bhd and fund manager of the Phillip Master Equity Growth Fund, shares this view. “Some companies were too small for the big funds to buy into. But we invested in them and grew together with them over the years,” he says.

As at April 23, the top five holdings of Areca Equity Trust were Supermax Corp Bhd, Pentamaster Corp Bhd, RHB Bank Bhd, Kossan Rubber Industries Bhd and MI Equipment Holdings Bhd. The top five holdings of the Phillip Master Equity Growth Fund as at June 30 were Samchem Holdings Bhd, Perak Transit Bhd, Nova Wellness Group Bhd, JF Technology Bhd and Denko Industrial Corp Bhd.


Stock selection remains key

The Morningstar data show that fund size is not the only thing that determines the performance of a unit trust fund. For example, in the Malaysian equity large-cap category, one of the top-performing funds was Affin Hwang Select Opportunity. It was one of the largest funds in this space, with RM994 million under management. But another outperformer in this category — InterPac Dynamic Equity — only had a fund size of RM8.41 million.

While it is true that most top-performing funds in the mid-to-small-cap space have RM500 million or less under management, the top-performing Kenanga Growth Fund had AUM of RM1.4 billion while the second-best performer — Eastspring Investment Small-cap — had RM679 million under management as at May 29, according to its fund fact sheet.

Ismitz Matthew De Alwis, CEO of Kenanga Investors Bhd, says investment strategy and stock selection based on solid research by fund managers and their research teams are more important than fund size. “Fund performance is more driven by the investment strategy rather than the size of the firm [and fund]. Different investment strategies outperform in different market cycles. Our team is extremely focused on conducting research and investing in undervalued stocks,” he adds.

The top five holdings of the Kenanga Growth Fund as at June 30 were Tenaga Nasional Bhd, Malayan Banking Bhd, Dialog Group Bhd, Yinson Holdings Bhd and Petronas Chemicals Groups Bhd.

Gan Eng Peng, director of equity strategies and advisory at Affin Hwang Asset Management, says the team behind Affin Hwang Select Opportunity has been striving hard to identify new investment strategies and bottom-up stock ideas as the fund size has grown. He elaborates on how the fund managed to outperform its peers last year.

Gan was an early buyer of large-cap banking stocks as he thought the counters were oversold and undervalued on the back of an improving local and global economic backdrop. He also invested in the real estate investment trust sector, with a view that the abundance of liquidity in the local market would drive prices higher.

There was also a restructuring play, where the fund invested in listed companies that had Permodalan Nasional Bhd as one of their major shareholders. That was because a new management group, which included Tan Sri Abdul Wahid Omar, had joined PNB. The market believed a restructuring would happen under his watch.

“Other big bottom-up ideas included investing in an aluminium smelter company, a politically connected construction company and a regional food and beverage and tank farm operator,” says Gan.

Nevertheless, it is getting more challenging for him and his team to maintain the fund’s performance as it has continued to grow over the years. They have to work harder to identify more investment ideas and opportunities with the growing amount of investor money.

“The strong performance of the fund and active promotion by various distribution channels resulted in the doubling of the fund size last year. This was challenging as positions needed to be constantly rebalanced ... and there was a constant search for new ideas throughout the year,” says Gan.

The top five holdings of the fund as at May 31 were CIMB Group Holdings Bhd, Malayan Banking Bhd, Petronas Chemicals Group Bhd, Tenaga Nasional Bhd and Petronas Dagangan Bhd.


Take note of volatility  

When studying the performance of a unit trust fund, investors should do more than just look at the returns generated. They should also look at the volatility level of the fund as the last thing they want is to react emotionally to market swings and sell their holdings when prices are low.

Volatility is expressed by the standard deviation assigned to the funds. Simply put, the term reflects how far the returns of each fund could deviate from its average return over the years. The higher the standard deviation, the more volatile the fund performance, and vice versa.

According to the Morningstar data, the standard deviation of Malaysian large-cap equity funds from 2015 to 2017 ranged from 1.94 to 3.23 while the average and median standard deviation were 2.53 and 2.45 respectively. By comparison, the standard deviation of local mid-to-small-cap equity funds ranged from 1.86 to 5.01 while the average and median standard deviation were 3.22 and 3.65 respectively.

From 2013 to 2017, the standard deviation of large-cap funds ranged from 1.94 to 3.1 while the average and median standard deviation were 2.51 and 2.55 respectively. The standard deviation of mid-to-small-cap funds ranged from 2.17 to 4.88 while the average and median standard deviation were 3.39 and 3.28 respectively.

It is not surprising that small-cap companies are often associated with volatile share price movements and that their stocks usually make up a higher percentage of mid-to-small-cap funds’ portfolios. This translates into higher standard deviations of these funds.

From 2015 to 2017, the standard deviation of Malaysian equity income funds ranged from 1.71 to 4.31 while the average and median standard deviation were 2.43 and 2.2 respectively. From 2013 to 2017, the standard deviation ranged from 1.66 to 4.31 while the average and median standard deviation were 2.36 and 2.27 respectively.


How should investors pick their funds?

Financial planners say retail investors should do more due diligence before buying into unit trusts, and not buy into funds just because they are associated with a famous brand name and have more market exposure.

“Fund performance has little correlation with brand name and market exposure. The key is the fund manager, investment team and processes. Some smaller fund houses may have these capabilities, but do not have the budget to conduct branding and marketing activities,” says Yap Ming Hui, founder and managing director of Whitman Independent Advisors Sdn Bhd.

Bryan Zeng, general manager of FA Advisory Sdn Bhd, says passively buying into funds based on their brand name is not the right move. Investors should compare and assess funds from various perspectives before making a decision.

The risk-adjusted returns, represented by the Sharpe ratio, is an important metric that Zeng uses. The higher the ratio, the better the risk-adjusted returns.

This ratio is also favoured by Kevin Neoh, a licensed financial planner at VKA Wealth Planners Sdn Bhd. “I recommend that investors check out this ratio of the funds from the same category. It tells us how many units of risk the fund manager has to undertake to generate one unit of return. Generally, an equity fund with a Sharpe ratio of 0.5 is considered reasonably acceptable,” he says.

It is essential that investors look at the fees that are imposed on them, such as the sales charge, says Zeng. “Investors need to understand that any fees charged by the fund house are a drag on the returns they receive from the funds. This factor must be taken into account before buying into a fund.”

He debunks the belief that better-performing funds impose a higher sales charge on investors. “The sales charge should be determined by the services provided to the investors. It should not be purely based on past performance because past performance does not guarantee future performance,” he says.

Those who invest in equity funds via unit trust agents are typically charged a 5% to 6.5% sales fee. However, those who can make their own investment decisions could buy into funds with a sales charge of 2% or lower via online portals such as

Fund size and fund managers are the two things investors should be aware of, says Zeng. He adds that an equity fund size of less than RM10 million is too small and “may not be adequately diversified”. It is also likely to entail a higher management expense ratio (MER), which will be a drag on the fund’s performance.

The MER is the cost of managing and operating a fund. The expenses are generally fixed costs such as management, legal and auditor fees. Funds with higher returns and lower MERs are preferable.

The fund manager is crucial to the success of the fund. “Knowing the fund manager is similar to knowing the management of listed companies. Investors should get a chance to know the fund manager’s investment philosophy, risk management framework and thought process,” says Zeng.

Neoh says the portfolio turnover rate (PTR) is another factor that investors can look at. The rate tells them how frequent a fund buys or sells its holdings over a 12-month period. A higher PTR indicates that the fund is trading more actively.

It is worth noting that the trading and brokerage fees used to measure a fund’s PTR are not included in the MER.

Investors would need to make the effort to obtain such information. For instance, the fund size is readily available on the fund’s fact sheet. As for the fund’s Sharpe ratio, investors can log on to Morningstar’s website.

The Lipper Leaders website allows the public to screen funds, enabling them to gauge the funds’ volatility level via its “Preservation” score of one to five — the lower the rating, the higher the volatility. The MER and PTR are available in the fund’s annual report.

Yap says investors should attend events organised by fund houses to listen to their fund manager’s views or to ask them questions. Alternatively, investors can rely on the historical returns and ratings of investment research firms, such as Morningstar and Thomson Reuters Lipper, to have a sense of how each fund has been performing.

Yap suggests that investors look at these metrics from a three-year perspective. That is because one year is too short to make a sound assessment while five years is too long. “That is because the fund manager may have left and the investing mandate could change after five years, say, from investing only in Malaysian equities to investing in Asian equities. We would reassess the fund in this case as it would no longer fall under the Malaysian equity category,” he says.

Financial planners say the most important thing investors should know is their investment objectives, time frame, risk appetite and preferred asset allocation. After all, they should bear in mind that the ultimate goal of investing is to achieve their short and long-term financial goals.