Passive investment strategies

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Passive investment strategies

Several articles back, we introduced you to what a passive investment strategy would look like, relative to an active strategy.

Accepting a passive strategy typically means buying into an ‘Exchange Traded Fund’ or index fund. These funds would track an index, which is what allows the passive strategy to work so well. If you need a refresher on active vs. passive management, please read this.

This need not be a lengthy article, and we’re not suggesting that you become an investment analyst; taking apart various funds. But we do want you to know that South Africa does have a sophisticated financial services industry, and we do have access to these products.

Even some of the bigger and older financial institutions in South Africa have felt the pressure in more recent years to introduce some passive options for their clients. They are realising that fee sensitivity is undeniable. Readers like you are asking questions of these institutions and when the facts are undeniable, they needed to respond.

Humans just aren’t generally that good at investing.

Here are some recent quotes from media articles regarding the results of actively managed funds, as opposed to Exchange Traded Funds or ETFs.

“…84% underperformed their benchmark last year…” 2015

“…over a five-year period, 85% of domestic equity funds underperformed [their benchmark]…” 2015

“…[over a 5 year period] 97% of global funds trailed their respective benchmarks…” 2015

“…94.8% of actively managed domestic general equity funds in SA have underperformed the FTSE/JSE all-share index over the 20 years…” 2011

We wanted to include the dates so you didn’t think this was a once-off thing, and that our ramblings about efficient markets were a fluke.

It is hard to argue with these statements. In fact, we are not aware of anyone who has disputed the analysis of under-performance of actively managed funds in general.


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But what’s the difference?

Before we get into letting you know where you might find ETFs and index Funds in SA, let us quickly clear up any confusion there might be, regarding the difference between the two.

An ETF and an index fund are both unit trusts. Both are wrappers, or ‘invest platforms’ that allow various asset classes to be housed inside them. The assets inside the fund would of course be dictated by the index that it is tracking.

ETFs are listed on a stock exchange and are bought and sold like a share would be. During the day, the price will go up and down, much like a share.

An index unit trust on the other hand, is not listed, and will only have a daily price. The unit trust management company will set a price for units in an index fund on a daily basis, based on the value of the assets in the fund, and the number of units issued. When you sell or have your units redeemed, that is the price at which you effectively sell your unit trusts.

An ETF would be bought like a share would, through a stock broker, or an online share dealing platform, while an index fund would be available through the financial services company directly.

There are lots and lots of funds.

We won’t take up your valuable time listing all the index fund and ETFs options that are out there, but Google is your friend. There is even a Wikipedia page which may be of help. Some of these are in fact index funds, not all ETFs like the page heading would suggest.

Index Funds and passive investment strategies are definitely here to stay.

The long-term investing landscape, both in South Africa and globally, has changed radically from what it was ten years ago. Most large financial services institutions now offer some kind of index fund, or ‘low cost’ option.

Let’s take a moment to see if you’ve learnt the important things in our last few articles:

If Index Fund A and Index Fund B are both tracking the same underlying index – which index fund do I invest in?

  • The one with the best logo
  • The cheapest one
  • The one with the sentimental TV ad that you can relate to
  • The one everyone is telling you to invest in

The answer: (B) – the cheapest.

If you’re comparing funds that have an equal mandate, or an equal ‘goal’, i.e. to track the performance of an underlying index, then the performance of both is largely going to be the same. Some funds do track indices better than others, but that is beyond the scope of this article and kinda nit-picking.

To give you an example of just how competitive these passive funds have become internationally, one of the large broad stock market tracking index funds in the U.S has annual fees of 0.09% p.a. This may not mean much to you, but consider that a quick Google of what the average South African actively managed general equity unit trust charges, gives results of 0.72% p.a. That is 8 times more expensive.

Yes, the U.S market for passive fund is MUCH larger and there is more competition, but let’s hope that the competition for cheaper funds in SA reaches these levels – for the sake of all our long-term investors.

The big guys aren’t necessarily the trustworthy guys.

It’s not just big ‘ol financial services companies that are responding to the passive debate. Some new entrants into the retirement and long-term investing market are basing their entire business model on passive investing. We don’t endorse companies here at WellSpent, as being independent as well as being seen to be independent is very important to us, but we will however mention 10X Investments.

They are a long-term life insurance company, offering retirement annuities, living annuities, and retirement preservation options. Their entire universe of underlying funds for all their clients’ long-term investing money is all housed in passively managed funds.

Our suspicion is that over time, these smaller and more nimble financial services companies, with their compelling business models, will gain a lot more traction as people start to open their eyes. That, OR, the larger players will realise that they need to offer comparative products.

Either way, we all win.

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