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Fund managers told how FMA wants performance fees disclosed

The Financial Markets Authority wants more clarity for investors about fund managers’ performance fees but some in the industry are questioning whether it  has overstepped the mark.

Wednesday, December 2nd 2015, 6:00AM 39 Comments

by Susan Edmunds

Submissions closed last week on the FMA’s draft guidance on fees and returns from managed funds.

The FMA said it saw some inconsistency in how performance-based fees were disclosed in disclosure statements under the Securities Act, and how managers were calculating 0% PIR returns and fund charges.

It said it was particularly concerned about managers who used a performance-based fee without a high-water mark, or fees linked to inappropriate benchmarks. 

“The FMC regulations require managers to provide an example of how fees apply to investors. Within the example, managers must disclose the effect of any applicable performance fee," it said.

The FMA said if there was no high-water mark, that should be clearly disclosed in PDS documents.

It also wants it clearly explained to investors what benchmark the performance fee is linked to.

“Some funds currently base their performance fee on a hurdle rate of return linked to a market index that does not fairly reflect the asset class and risks of the underlying investments. An example is equity-based funds that use a 90-day bank bill index as the hurdle rate of return. A fund could underperform against the appropriate market index but will still be paid a performance fee. “

The FMA said when an inappropriate index was used this should be made clear so investors could understand the implications of that.

It gives examples of the kind of disclosure wording that could be appropriate.

John Berry, of Pathfinder Asset Management, said he supported the FMA. “If you manage a equity fund and you use a cash benchmark, that needs to be spelt out really clearly for investors.”

He said it was not sufficient to leave it to the industry to come up with a solution to how that should be explained because it had already had a number of years in which it could have done that. "In my mind there is no issue if a manager chooses to structure a certain way but that has to be disclosed in a way that people can understand."

But David Ireland and Catriona Grover of Kensington Swan, made a submission saying it was incorrect for FMA to describe such benchmarks as “inappropriate”.

“This is a commercial matter, and should not form part of FMA’s regulatory guidance. Provided the hurdle rate is clearly identified, and where it differs from the appropriate market performance measure that distinction is clearly and effectively disclosed, that should be the end of the matter. Hurdle rates that must be surpassed before a performance fee is charged may differ from the relevant market index measure for a number of commercial or marketing-related reasons, many of which may be reasonable.”

Fund managers were also concerned by a direction they disclose the charges of all underlying funds, including unit trusts, super schemes, managed investment schemes, property funds and exchange-traded funds.

Andrew Bascand, of Harbour, said he had asked for clarification on how that would apply to listed and unlisted property trusts. “What’s the fee, how do I disclose that?”

Rebecca Thomas, of Mint, said it would be hard for managers to assess those costs for property trusts and they would not be expected to report on the costs of investing directly in any other listed company's shares.

But she said listed property trusts were different from other shares because they benefit from the PIE tax regime.

Berry said it would also be a problem if there was ever a listed private equity vehicle in New Zealand.

Tags: funds management Performance fees

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Comments from our readers

On 2 December 2015 at 9:59 am Brent Sheather said:
Well goodness me this makes for interesting reading doesn’t it! Good reporting from Good Returns. The most significant thing here to me is the submission from David Ireland. Mr Ireland is Chairman of the Code Committee and the Code is designed to get financial advisors to put clients interest first and thus get retail investors a fair deal. In this submission however Mr Ireland seems to be taking the industry view that “if you disclose then anything goes”. This is also at variance with the recent excellent speech by Liam Mason of the FMA that disclosure is just a start.

Good on the FMA for standing up for investors rights and trying to put some substance behind that claim that the FMC will see retail investors get a fairer deal. Other countries have made these sort of unfair performance fees illegal. Think of the damage these performance fees do to the financial sectors credibility – when I tell new clients about these sorts of things they frequently say that “they didn’t think this sort of practice still went on in NZ”, “you have to be careful” and “who can we trust?” Not good. One client said that he had a residential property in Mt Eden managed by a real estate firm and they didn’t charge a performance fee if Mt Eden property rose at a faster rate than the return on bank deposits.

For some perspective on performance fees generally let alone patently unfair ones the NZ Super Fund said to me the other day in an email : “Speaking generally, however, it is common practice for institutional investors to pay fees based on assets under management only, not performance, for long-only equities mandates”. If fair performance fees aren’t suitable for institutional investors then unfair ones are not fair or putting client’s interests first and certainly not consistent with the Code.

Regards
Brent Sheather
On 2 December 2015 at 2:49 pm R1 said:
How can someone with David Ireland's view of what constitutes appropriate disclosure of fees Chair the Code Committee which requires AFA's to put their client's interest first?
On 2 December 2015 at 3:55 pm b p said:
Good points Brent.

I'm sure the FMA will be chuffed to see lawyers promoting minimal compliance with the letter of the law. The FMA has been quite clear in its desire to see financial markets participants do the right thing by clients rather than the minimal thing by law. Good luck to anyone who takes a check box or minimum compliance approach with the FMA.

The approach promoted by these lawyers (and many funds managers who follow that approach) is self serving and a big part of the reason that the financial services industry in NZ has such low respect and low participation from the wider public.

And as to your implied question as to why retail investors should pay performance fees but not institutional, the answer to that is because the industry has suckered retail investors.
On 2 December 2015 at 4:51 pm Brent Sheather said:
Mr Ireland’s comments also look incongruous in the context of what is happening internationally. A Financial Times article last week reported on systemic closet tracking in at least twenty of the largest equity markets and several prominent investors “called on international regulators to address the problem as a matter of urgency”. Carl Rosen, Chief Executive of the Swedish Shareholders Association, said “regulators should ban all active funds that charge more than 0.8% in fees, have a tracking error of below 4% and an active share of below 40%”. Alan Miller, Chief Investment Officer of SCM Private, said “it was an absolute disgrace regulators across Europe have not done more to tackle this issue”.
Meanwhile back in New Zealand the Chairman of the Code Committee is arguing against increased regulation of unfair performance fees. Hmmm, not a great look.

Regards
Brent Sheather
On 3 December 2015 at 11:29 am Kimble said:
> And as to your implied question as to why retail investors should pay performance fees but not institutional, the answer to that is because the industry has suckered retail investors.

Perhaps.

But let's also consider:

1. Institutional investors have a large amount of money to invest, this represents significant purchasing power.
2. Institutional investors are more likely to hold managers to account for their performance and exit a fund that disappoints them.
3. Fund managers have fixed costs and their variable costs don't increase at the same rate as funds under management increase.
5. There is an opportunity to make considerable extra profit from attracting (and retaining) institutional investors, and increasing that mandate.
6. The same extra profit would be difficult to gain from thousands of individual investors.
7. The financial interests of institutional investors are much more aligned with those of the fund manager's business.

Maybe insto investors aren't charged a performance fee because they don't require one to be confident of the manager striving to act in their best interests?
On 3 December 2015 at 12:48 pm thombentley said:
I'm all for transparency in fees and I think every manager should publish a TER for every fund. However just because retail funds charge performance fees it does not automatically make them unfair.

Institutional investors generally have very different requirements to retail investors. They are primarily looking for beta plus a little bit of alpha and have tight restraints on tracking errors, maximum relative position sizes and cash weightings. Retail investors don't tend to care as much about performance relative to an index, they want good returns and not to lose money.

Consequently many (if not most) retail funds in NZ have the ability to go to cash if deemed appropriate, and/or to protect the downside in other ways (e.g. by using futures and options).

In the end the performance of active managers is the determining factor. Looking at Morningstar data for NZ based Australasian equity funds, we can see the following:

Over 1 year, the benchmark (50% ASX All Ords Acc/50% NZX 50 G, in NZD) has returned +1.66%. The average retail fund has returned +8.72% net of all fees. 20 out of 23 funds beat the benchmark.

Over 3 years, the average retail fund returned +15.13% p.a. net of fees vs the benchmark return of +9.17% p.a., and 16 out of 17 funds beat the benchmark.

Over 5 years, the average retail fund returned +12.21% p.a. net of fees vs the benchmark return of +7.9% p.a., and 13 out of 13 funds beat the benchmark.

Going for the low cost passive option over the last five years may have saved your client lots in performance fees, but if they had invested $100,000 even in the average active fund, they would be almost $25000 better off.

So, are advisers who recommend active Australasian equity managers (most of whom charge performance fees) doing their clients a disservice, or is it the advisers advocating low cost passive funds that are giving the client poor advice?


On 3 December 2015 at 4:27 pm Brent Sheather said:
Hi Thom

Your comments would be more relevant if :

• The NZ and Australasian share markets were not less than 3% of the world equity markets and
• Our investment universe was limited to NZ based Australasian equity funds covered by Morningstar.
• Our investment horizon was five years and past performance, particularly hedging gains was indicative of the future.

Neither of those constraints apply, fortunately. Repeat your analysis for the other 95% of the world stock market, filter out hedging gains and check your results and your conclusion.
On 3 December 2015 at 5:51 pm b p said:
Thom - Thats a very long winded description of a very simple concept called "Benchmark Arbitrage". Did the risk those funds take reflect a 50/50 split between NZ and Australia?

And just to complete the set of information could you perhaps look up the returns for some of the NZX smartshares and compare to your "average retail fund"?

Just to help you out, FNZ did 11.7% over one year, and MDZ did 15.7% over one year to 31 October.

Nothing wrong with performance fees but they should only be paid for actual performance, not as a reward for choosing the right benchmark (ie OCR + a margin!) or for other clever structural fiddles.
On 3 December 2015 at 8:38 pm thombentley said:
And by the way Brent, if your client with the property in Mt Eden wants to sell, they will still pay (say) 3% commission to do so. If the price has gone from $500k to $1.3m, they will pay close to $40,000 in commission vs $15000 that the vendor originally paid. Has the real estate agent done any extra work to deserve that $25,000 increase? Or if the owner increases the rent by 15%, the agent earns 15% more commission without lifting a finger.
On 4 December 2015 at 2:40 pm Brent Sheather said:
Another good point Thom….unless the client doesn’t sell …..

Also in the interests of full disclosure it might have been helpful Thom if you had told readers you work for a company that charges performance fees and perhaps also that your remuneration reflects such fees.
On 4 December 2015 at 8:59 pm thombentley said:
Brent, I think many people who read this know who I am and what I do. However it's very bad form that you chose to speculate on my remuneration without bothering to ask me how I‘m remunerated. To be clear, I don’t get remunerated in any way through performance fees earned by any of my clients.

To answer your and bp’s points:

1. I didn't select the benchmark for Australasian Equity funds, Morningstar did. They use that benchmark as the basis for the star ratings and performance analytics for their research in that sector.
2. Yes, Australasian equity is only 3% of the global index, but it’s probably 30%+ of most NZ retail investors’ portfolios, so it’s not as immaterial as you might suggest. Anyway I wasn’t talking about what Brent does, just making the point that performance fees in retail funds are not automatically bad. In fact, I think if you did further research you’d probably find that the funds in this sector with the highest TERs also generally have the best net returns.
3. Active Australasian equity funds have the choice about whether to invest in NZ vs Australia. That's what active management is - taking positions away from a benchmark in order to outperform. If you want to call it benchmark arbitrage, fine.
4. Currency hedging is an active choice. Some funds fully hedge all the time, some are actively hedged and some may be unhedged. I have no idea whether (and how much) any of these funds (other than those of my clients) were hedged, and at what points.
5. FNZ and MDZ are 100% NZ equities, so you're not comparing apples with apples. That said, if you look at the Morningstar NZ equity sector, over 3 years to 31st October, 8 out of 12 active funds beat the NZX50 Gross, and over 5 years 10 out of 12 active funds beat the NZX50 Gross. After all fees, of course.
6. To give you the full disclosure you require Brent, all my clients (Mint, King Tide and The Boat Fund) charge performance fees. Their 3 year (or since inception if shorter) returns net of all fees vs their relevant benchmarks, to 31/10/15 are:

Mint Australasian Equity: +18.89% p.a.
NZX 50 Gross: +14.79% p.a.

King Tide Long/Short Equity: +8.58% p.a.
Benchmark (90% ASX All Ords/10% NZX50G, in NZD): +4.64% p.a.

The Boat Fund: total net of fees return since inception (6th May 2013): +73.65%
S&P/ASX Small Ords Accumulation Index over that period: +5.12%.
On 7 December 2015 at 10:41 am R1 said:
What we need now is a really good down turn to see who is wearing what when the tide falls.
On 7 December 2015 at 2:48 pm thombentley said:
Well R1, hopefully we don't need a 25% fall in Australasian equities just to prove a point about low cost managers vs managers with performance fees.

I can 100% guarantee that after fees, passive managers will underperform their benchmarks in an up, down or sideways market. By contrast in the recent Q3 2015 market downturn, Remarkable Capital's managers achieved (net of fees, 01/07/15 to 30/09/15):

Mint Australasian Equity: -0.66%
King Tide Long/Short: +4.97%
The Boat Fund: +1.30%


The low cost Australasian equity options over the same period were:

Smartshares NZ Core Equity: -4.02%
SmartMIDZ: -2.43%
SmartOZZY: -12.17%
Australian Foundation: -6.9%
Dimensional Australian Core Equity: -6.22%
Dimensional Australian Small Cap: -3.01%

Maybe the active managers were 'arbitraging the benchmark' by doing outrageous things like holding stocks that went down less than the benchmark, holding cash, and/or protecting the downside in other ways?

Whatever, I know which (net of fee) returns retail investors would prefer in a down market.
On 7 December 2015 at 3:30 pm Brent Sheather said:
Well Thom given that you have all the answers perhaps you can tell readers why so much money is going into passive funds globally and coming out of actively managed funds?

The Financial Times reckon it’s because active managers underperform in up, down and sideways markets. On your numbers local active managers outperform. Perhaps all the best fund managers from the US, Europe and the UK have shifted to NZ and are managing Australasian portfolios out of Auckland? Or is there some other variable like hedging fx you aren’t considering?? If hedging is the answer how long is that going to work for?
On 7 December 2015 at 4:11 pm R1 said:
TB - Are you for real; comparing various funds over a three month period? I think we can let that sort of analysis speak for itself.
On 7 December 2015 at 6:16 pm thombentley said:
Ah Brent, it's delightfully ironic to be accused by you of all people of thinking I have all the answers.

We've strayed off the point a bit. The key point was that in this part of the world, active managers have delivered significant value AFTER all fees, including performance fees.

No, it's not because all the best fund managers have moved here from elsewhere, it's because we grow some very talented boutique fund managers in NZ and Australia who operate in two equity markets (NZ and Australia) which are fairly inefficient.

As I pointed out, the majority of active New Zealand equity managers have beaten the benchmark over both 3 and 5 years. There's no currency hedging involved in managing domestic equities, so perhaps there's some manager skill involved?

I'm not necessarily advocating active management in all markets. Would I go active in global sovereign bonds? No (too efficient). Global corporate bonds? Definitely yes (because it's all about avoiding defaults, and you can't do that in a passive fund). Large cap US equities? Probably not. Small cap Australasian equities? Definitely yes.

All these studies you read about how active managers underperform on average are written from the US or European standpoint. Those markets are pretty efficient and are full of fund managers who manage retail funds like institutional mandates, with very low tracking errors and small positions away from the benchmark.

When fund managers get big, they care far more about their position relative to their rivals and the benchmark than they do about outperforming, because it's all about keeping their FUM.

Small NZ based boutiques don't have that luxury, and they have to deliver good numbers simply to survive.

So - do your clients a favour and take another look at active managers if you're allocating to Australasian equities.
On 7 December 2015 at 7:23 pm Pragmatic said:
Thanks Brent. Useful perspective as always. There are many interesting readings surrounding the active / passive debate, with a more recent paper produced by Casey Quirk on your very question. It's easily obtainable via Google - although in summary, the passive phenomena is due to a variety of factors including mediocre advice, a perfect storm in financial conditions, disintermediation (i.e.: as a result of the mediocre advice, where consumers become increasingly price sensitive) & an abundance of so-called-active managers. On the latter point, there are more active managers than stocks available, with a vast majority delivering a net passive result at active fees. That's not to say that active management is not successful ( with many many good examples available). What it suggests is that investors & advisors alike must spend more efforts filtering through the noise & nonsense to short-list a useable universe. Sadly many in the industry find this research challenging, & end up defaulting to an entire passive strategy (with little or no understanding of price versus value), or use passive as a crutch to quarantine their own margins.
On 8 December 2015 at 6:44 am thombentley said:
Thanks R1.

If you read this thread you'll see several places where I've used longer term performance data.

The Q3 numbers simply show that in the most recent significant market pullback, active managers did a great job of protecting client capital while the low cost guys, well, didn't.

In fact if you look at the full data from FundSource, every single boutique active NZ equity manager beat the benchmark over that 3 month pullback.

If you'd like to see data on how avoiding short term market pullbacks leads to significant long term (10 years plus) outperformance, please contact me.
On 8 December 2015 at 9:50 am R1 said:
TB - You don't need data to show that if you avoid the dips you outperform. The data I want to see is the post-fee returns of active manager over 10 - 30 year horizons (such as retail investors saving for their retirement are looking for), through such events as a GFC. Much of what we are hearing here is after the GFC where the tide has risen well ahead of historic averages. If you tell me that most of the active managers have been around for less time than that then I want to know why and why should I trust them with my life savings when they have no track record beyond the past 5 years or so. I saw a chart a few years ago from a very enthusiastic local 'guru' that positively correlated the level of fees paid to an active investment manager with returns they achieved; yeah right.
On 8 December 2015 at 10:20 am Murray Weatherston said:
Isn't the reason that more NZ fund managers can outperform the index more often is that the index has a number of heavily weighted stocks in it.

If a manager takes a view on these biggies, then if they are underweight the biggest % stocks when they are relatively underperforming, and overweight them when they are relatively outperforming, they will seem like stars.

Remember when Telecom was something over 20% of the index, and the price was falling from $10 to $2, those managers who held no Telecom looked like rock stars.

Non-Australasian stock markets don't have such a skewed size distribution, so these "easy plays" aren't available.
On 8 December 2015 at 10:28 am Brent Sheather said:
Hi again Thom
Thanks for your comments. You explain the purported outperformance of local active managers by saying that they “operate in two equity markets (NZ and Australia) which are fairly inefficient”. The facts do not support this comment. The latest Standard and Poors Active versus Passive report shows that over 1 year and 5 years 86% and 89% respectively of active managers in the US underperformed the S&P500 suggesting that that market is efficient. In Australia the numbers are 61.4% and 78% respectively suggesting that that market is reasonably efficient as well. Now this data conflicts with your data so the question is – why do fund managers locally manage to outperform in Australasia when Australian fund managers underperform despite their home market advantage? The most plausible explanation is hedging gains and these aren’t likely to be persistent.

I take your point that small cap Australasian equities are inefficient – the SPIVA report shows that only 19% of active managers underperformed the index but this could easily be due to the fact that the small cap index is dominated by resource stocks. Avoid those and you outperform over the short and long term.

So yes small cap Aussie is a good place to adopt active management but, and here is the important point, what level of exposure to Australia small cap is appropriate and prudent for Mum and Dad retired with $500,000? Best practice as evidenced by the actions of pension fund trustees, not to mention the academic theory which says that the market portfolio is the least risky portfolio, all of which are relevant if I am putting client’s interest first, is that the appropriate exposure to Australian small cap is 4/5ths of 5/8ths of not much. Would you not agree?

Regards
Brent Sheather
On 8 December 2015 at 10:48 am thombentley said:
R1, please contact me and I'll provide you the data.

On the point about long term track records, by the time most good active managers have a successful 10 year track record they will either have long ago closed to new investors (if they're sensible) or will have reverted to the institutional way of investing to ensure they keep the FUM they have.

And by the way, just because an active manager provides you with data which shows active management works, it doesn't invalidate it.

Should we ignore all data on passive management because it's provided by passive managers and other proponents of efficient market theory? Actually, read on, because we probably should.

Ironically the main proponents of efficient markets (Markowitz, Fama, French, Merton, Scholes) all ended up working for fund managers with the objective of beating the market.

Merton and Scholes were co-founders of Long Term Capital Management which managed to lose US$4.6 billion in 4 months in 1998 and almost bring down the US banking system in the process.

Markowitz created a quant strategy at Daiwa Securities in the mid 1990s with the aim of beating the market. Owing to the lack of news about it these days, presumably it didn't go well.

Would you trust these guys and their terrible track records with your life savings? Apparently you would.

Merton is now the 'resident scientist' (whatever that means) at Dimensional Funds where Scholes, Fama and French also work.
On 8 December 2015 at 10:51 am thombentley said:
R1, please contact me and I'll provide you the data.

On the point about long term track records, by the time most good active managers have a successful 10 year track record they will either have long ago closed to new investors (if they're sensible) or will have reverted to the institutional way of investing to ensure they keep the FUM they have.

And by the way, just because an active manager provides you with data which shows active management works, it doesn't invalidate it.

Should we ignore all data on passive management because it's provided by passive managers and other proponents of efficient market theory? Actually, read on, because we probably should.

Ironically the main proponents of efficient markets (Markowitz, Fama, French, Merton, Scholes) all ended up working for fund managers with the objective of beating the market.

Merton and Scholes were co-founders of Long Term Capital Management which managed to lose US$4.6 billion in 4 months in 1998 and almost bring down the US banking system in the process.

Markowitz created a quant strategy at Daiwa Securities in the mid 1990s with the aim of beating the market. Owing to the lack of news about it these days, presumably it didn't go well.

Would you trust these guys and their terrible track records with your life savings? Apparently you would.

Merton is now the 'resident scientist' (whatever that means) at Dimensional Funds where Scholes, Fama and French also work.
On 8 December 2015 at 1:23 pm thombentley said:
Brent, saying 'the market portfolio is the least risky portfolio' is meaningless. Least risky compared to what? Of course it's the least risky asset compared to the market because it is the market. But compared to cash? 30 year US treasuries? Not so much.

On the active vs passive debate, bear in mind there are over 300 Aussie funds which use the ASX200 as a benchmark. Most of the money in those funds comes out of super funds which have an institutional mindset and like low tracking errors, small deviations from the benchmark etc. - not really what I would call true active management. Of the Aussie managers with truly active funds (i.e. that can protect the downside in poor markets), 100% of them have beaten the market over the last 10 years, by an average of 3 times the market return, with lower volatility. Data available if required.

On the issue of benchmarks, how many clients in passive ASX All Ords trackers would know that around 50% of their money is in 20 stocks, of which 5 are banks and 3 are resource stocks, and that cumulatively those 8 stocks have fallen around 30% year to date? Not that they'll be worried of course, they're in the market portfolio, which is the least risky.

I think the Aussie small cap market is around 15% of the ASX All Ords, so that's a good starting point.

Personally I'd have more in small caps because it's the least efficient part of the market and small caps have far more chance of growing earnings at 20% p.a. plus for several years than large caps do. But then I'm only 49.

I think you're a little obsessed with hedging. If the average active NZ based Australasian fund has beaten the 50/50 benchmark by 6% p.a. over the last 3 years and 4.3% p.a. over the last 5 years, I doubt you can explain all of that by hedging gains even if you assume all those funds were fully hedged all the time, which they weren't.
On 8 December 2015 at 2:50 pm Brent Sheather said:
Hi Thom,
The comment about the market portfolio being the least risky portfolio might be meaningless to you but it’s in every stage one finance course. It was used recently to good effect in a case of a silly financial adviser who didn’t understand the theory. The firm who employed him subsequently had to remedy his errors.
On 8 December 2015 at 3:50 pm thombentley said:
PS - mysteriously, Messrs Merton and Scholes seem to have left Long Term Capital Management out of their otherwise impressive resumes on the Dimensional Funds website....
On 8 December 2015 at 4:16 pm thombentley said:
Theory shmeory.

If the market portfolio has 50% of its assets in 20 stocks with massive exposure to banks and resources within that 20 stocks, how is that less risky than a 30 stock portfolio with diversification across a range of sectors and the ability to go to cash and/or protect the downside via put options?

I think any retail investor would understand that the second option is less risky. Only someone with a Nobel prize in economics would go for the market portfolio.
On 9 December 2015 at 2:58 pm Kimble said:
Of the Aussie managers with truly active funds (i.e. that can protect the downside in poor markets), 100% of them have beaten the market over the last 10 years, by an average of 3 times the market return, with lower volatility. Data available if required.

The ASX did roughly 70% cumulative over the last 10 years. And you are saying that the AVERAGE performance of your sample is over 200%?

That's an interesting stat, to say the least. Why not post the data publicly? It's not hard.

In particular, I would be interested in your reason for excluding PM Capital Australian Companies from your sample.
On 9 December 2015 at 7:16 pm thombentley said:
Hi Kimble,

Yes, the average total return of Australian funds able to protect the downside over 10 years to 30th September 2015 was +243%, versus +68% for the ASX All Ords Accumulation Index.

This data was presented at the SIFA conference in May this year. I have also sent out this data in my newsletter on more than one occasion.

Please email me (thom@remarkablecapital.com) and I'll send you the data, which also looks at 5 year numbers. I'll also send some 20 year data on US funds which operate a downside protection strategy.

I believe the PM Capital fund is included in the data but I'll have to check.
On 10 December 2015 at 12:28 am Kimble said:
That response only raises more questions.

1) How was data from September presented at SIFA back in May?

2) How can it be 100% of managers outperformed when the PM Capital fund returned around 55% over that time period, less than the index's 68%?

3) What of survivorship bias?

4) What dataset are you using? Because only two funds that I know of returned more than 243% over that time; one invested in small caps and the other in China.

Just post the data somewhere public so we can all see it.
On 10 December 2015 at 8:32 am thombentley said:
Kimble, the PM Capital fund is included in the data above.
On 10 December 2015 at 11:52 am Kimble said:
Thom, then you have a real problem with your statement that "Of the Aussie managers with truly active funds... 100% of them have beaten the market over the last 10 years".

PM Capital returned LESS than the market over that time period.

So it is impossible for 100% of the sample to have beaten the index.

And that is before we even get to the assertion that the AVERAGE return of those funds was somehow 243% when only two funds are known to have returned more than that, neither of which meet your description of your sample.
On 11 December 2015 at 1:31 pm Thom Bentley said:
Hi Kimble,

To answer your questions:

1. Well spotted thanks. The data presented at SIFA's May conference by Mark Houghton of King Tide was to 31 March 2015. It has since been updated to 30 September 2015. The level of outperformance is unchanged across the two periods.

For the 20 year US data, please follow this link to the CFA website:

https://www.cfainstitute.org/learning/products/publications/contributed/altinvestment/Documents/bx_takingstock_blackstone.pdf

2. I've rechecked the numbers in the King Tide database (which are taken from the monthly unit price data supplied by PM Capital, and assume reinvestment of distributions) and also confirmed with PM Capital directly, and I'm afraid you are wrong. PM Capital Australian Companies outperformed the market over 10 years to 30 Sept 2015. Since PM Capital doesn't publish 10 year numbers on their factsheets, and Morningstar doesn't publish 10 year returns, where did you get your numbers?

3. Yes, there is an element of survivorship bias in the data. This is an issue for most data, including market index data (how many of the companies in the S&P500 index 20 years ago are still in business today, or still in the index?). Obviously the best way to avoid or mitigate blow ups is to diversify across a range of funds, as suggested in the CFA Institute paper.

4. The dataset is a universe of 63 NZ and Australian equity funds with a mandate to protect against downside risk. In other words, long/short equity funds. Most of these funds don't appear in any retail databases, hence your lack of knowledge about them.

Finally, thanks for your courteous request but sorry, I can't publish the underlying fund data publicly. This is proprietary research used by King Tide in their portfolio construction. However if you're interested, please feel free to visit Mark Houghton at King Tide and he can show you the underlying fund data.

However, below are the 10 year returns of the 16 managers in the database with a 10 year track record:

Fund 1: +1423.28%
Fund 2: +489.78%
Fund 3: +268.48%
Fund 4: +199.50%
Fund 5: +194.09%
Fund 6: +190.81%
Fund 7: +178.17%
Fund 8: +160.10%
Fund 9: +125.60%
Fund 10: +118.50%
Fund 11: +98.52%
Fund 12: +97.73%
Fund 13: +86.28%
Fund 14: +85.34%
Fund 15: +84.04%
PM Capital: +80.49%

ASX All Ordinaries Acc: +68.76%


On 13 December 2015 at 10:14 am Kimble said:
2. PM Capital does have performance for that period. But I believe they calculated their performance including franking credits for much of their history. The benchmark does not contain franking credits. That accounts for about 1.5% pa.http://www.asx.com.au/mfund/news/Measuring-the-returns-from-franking.htm

3. I dont think you understand my issue with survivorship bias. It arbitrarily reduces the average returns for that strategy. When the proposition is that managers can, if given a wide enough mandate, outperform the benchmark at will, then SOME examination of the propensity for such managers to survive the time period is expected.

4. Wow, so a single fund dragged the average up by 80%? In other words, a single fund accounts for 1x of your orders of magnitude! It makes your statistic entirely reliant upon the veracity of that funds return calculation. And at the moment, that is completely obscured and we are expected to both trust the returns AND the fact that this fund can fairly be called an "Australian equity" fund, rather than a leveraged hedge fund.

Look, when you say that the sample outperforms on AVERAGE you are representing that number as common between all the funds. Tell you what, next time you tell a client that 3x figure, also tell them that removing the top performing fund the average drops to 2x and see if it helps or harms your position. The median would have been a much better stat to use.

I can understand some reticence about making the dataset available if someone else claims to own it (though you sounded willing to share it privately? which would't suit the current purpose obviously), but surely you can publicly disclose the names of the funds in the sample? Then people could verify the returns themselves from public sources.
On 13 December 2015 at 12:56 pm thombentley said:
Hi Kimble,

I'm simply giving you the performance data that PM Capital themselves have provided. If you have a problem with their methodology, take it up with them. On an annualised basis PM Capital Australian Companies returned +7.54% p.a. net for the 10 years to 30 Sept 2015, over 2% p.a. better than the benchmark, so even on your basis they still beat the index.

On survivorship, of course the average would be lower if 'blow ups' were included. But similarly, the ASX200 return would be much lower if all those stocks that fell out of the benchmark and subsequently went bust (e.g. HIH, Babcock & Brown, MFS, Allco, ABC Learning) were included in the benchmark data.

I don't believe anybody with a modicum of basic maths knowledge would think that by using the average return I'm suggesting ALL funds in the sample outperformed the market by 3.4 times. That's nonsense. Nobody looks at the overall return of a sharemarket benchmark and assumes it means all stocks in that benchmark have the same performance! Also, no sharemarket benchmark would remove the top performing stocks or use the median stock's return as a representation of the market return.

Yes, one fund pulls up the average significantly, just like return of almost any market or group of funds can be pulled up (or down) significantly by one or two outliers. (e.g Apple and Google in the US).

If you prefer, use the median fund or remove the best and worst performing funds, and the return from these funds is still over twice that of the ASX All Ords.

This data is even more compelling when you look at the quality of the underlying returns. On average these funds have much better downside performance than the market and slightly lower upside performance. In other words they are generally less volatile but still deliver significant outperformance.

This database is the result of several years of hard work and research. Most of these funds are unknown to NZ investors and advisers. I'm not going to disclose the data publicly, especially not at the request of someone who won't disclose their own name or who they work for.

As I have repeatedly said, you are welcome to meet us and we can talk about the underlying funds.

If you are genuinely interested, King Tide's own performance data is updated monthly on the King Tide website and some of the funds in the database are mentioned in the monthly newsletters. Feel free to take a look.

Just to get back to the original topic (performance fees), yes, ALL these funds have performance fees and all the returns shown are net of fees.

On 14 December 2015 at 1:25 am Kimble said:
PM Capital reports 10.3%pa 5-year performance as of Sep-15 and 3.7%pa 5-year performance as of Sep-10. That works out to be a 10-year return of 6.95%pa.

Not sure what numbers you are looking at, but these are the public ones. Even using YOUR number of 80.49% cumulative results in an annualised return of 6.08%pa. I have literally no idea where you got 7.54%pa.

The ASX200 no longer includes companies that went out of business. But it DOES include their performance from BEFORE they went out of business. It didn't hold them all the way down, but it at least included them when they lost most of their value. In contrast, your average excludes all the returns of funds that didnt survive 10 years, and all the returns of the newer funds that haven't been around for 10 years.

I never said that you said that each fund RETURNED 3x the index. An average is a measure of central tendency or central location. The idea is that the sample is distributed AROUND the average. In this case, the average doesn't describe the centre. It's not even close.

Yes, using the median or removing the absurd outlier does still leave an impressive number, but that just raises the question of why you didnt remove the outlier or use the median before someone started asking questions. Do you plan to disclose that one fund's influence when you use the 243% or 3x stat in the future?

So you aren't even going to NAME the funds you claim have had this performance? Wow. Your first sentence here was "I'm all for transparency in fees...". Fees, sure, names no?

In the end, the story appears to be; some secret funds chosen by a mysterious proprietary method, and undisclosed selection criteria, have produced unverifiable but extraordinary returns.
On 14 December 2015 at 8:30 am thombentley said:
Last comment on this post, as we're way off topic.

As I have explained, the PM Capital numbers were provided to me last week by PM Capital. If you want to argue that PM Capital are providing the wrong numbers, please take it up with them.

On the subject of averages, your description is perfect for things with Gaussian (bell curve) properties like average heights or weights of people (as no single piece of data will ever significantly skew the average), but in financial markets bell curves don't work because of the high incidence of fat tails, of which this is a perfect example.

I've told you the criteria for these funds (NZ and Australian long/short equity) and given you the performance. I've given you my email address and referred you to Mark Houghton numerous times if you want to know more. I've told you about the King Tide fact sheets where you can see some of the fund names. If you want to sign up for a log in, many of the underlying funds' fact sheets are available on the King Tide website.

This in not a black box, but we're just not going to give away the data without the opportunity to talk it through.

In past presentations, we have mentioned the outlier and removed it to show the results are still impressive, but the fact is, that fund is in the data (and in King Tide's portfolio) and it does make a difference.

In the end, If you prefer to not to see the data but instead criticise anonymously from the sidelines, that's your call. You have every opportunity to see the data, you'll just need to come out from behind your anonymity to do so.
On 14 December 2015 at 12:25 pm Kimble said:
I don't know where the fault lies, but the cumulative and annualised numbers you quoted are inconsistent. Both are also inconsistent with what PM Capital have on their website. If you are fine with that, then be aware that people will make their own inferences about such complacency. Some might be left with the impression that you don't care if your numbers are incorrect.

(And what happened to the numbers being calculated using unit prices and distributions? Now you say that they were provided already calculated? It's not that important, I am more than willing to trust PM Capital's calculation, it's just the inconsistency that is troubling. How many of the returns in your sample were simply handed to you by those other "mystery" funds? How many actually have audited or externally verified valuations and unit prices? How many of those funds disclose their returns for public scrutiny?)

Gaussian distributions are called normal distributions for a reason. There is also a reason why median is commonly called an average too. When you start talking about "averages" people have a right to assume you are talking about something resembling central tendency. Those people would say "No, those sorts of managers didnt produce 243% on average. They produced around 160% on average, with one outlier producing 1400%."

Stick with 2x and you wouldn't have an issue with your stat; it would then conform with the median of your peer group. But you deliberately include the outlier. Why? We might have been able to discern an innocent reason for keeping that outlier in the sample, but you refuse to give us the information required.

You made a bold, extraordinary claim quite publicly. I asked for justification for the claim, again, publicly. I think it is only reasonable that you substantiate that claim in this same forum. The names of the funds you include in the sample is hardly proprietary information. Please explain WHY the facts would change based on the identity of the person you are disclosing them to.

You are right that this isn't a black box. The concept of a black box is that you can see the inputs and you can see the outputs, but the mechanism of manipulation is obscured. In this case the mechanism is known, its a simple average, and the output is also known. It is the INPUTS that are obscured! You have every opportunity to disclose the data. But refuse.

I am not even saying that you are WRONG! But given your reticence to disclose pertinent information, and the errors in the data that was disclosed, I see every reason to view that extra-ordinary statistic with a great deal of scepticism. Sorry.
On 14 December 2015 at 4:55 pm Brent Sheather said:
I would like to nominate Mr Kimble as an honorary member of the Statistics Police. Good work Mr Kimble whoever you are.

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