What SA can learn from the fall of a star fund manager
Neil Woodford case highlights the importance of a thorough oversight process
A failure in the oversight of a top fund manager in the UK has left investors and the industry there reeling from news that its greatest star of the last two decades is now a fallen one.
SA has recently witnessed poor governance too, but less money is at stake than in the UK.
Neil Woodford — once a manager who delivered market-beating returns so frequently he received a CBE for services to the economy and once managed £33bn — was recently fired and his £3bn Equity Income Fund is to be closed.
His performance record faltered in mid-2017 after a series of bad stock picks and uncertainty over the Brexit referendum, forcing him to sell larger, more liquid holdings in the Equity Income Fund and increase his holdings in illiquid, unlisted start-up companies. In June 2019, he was forced to suspend withdrawals from the fund, and in October the authorised corporate director decided not to reopen the fund, to the detriment of thousands of investors.
After Woodford left Invesco Perpetual, one of the largest investment managers in the UK, to start his own investment company, he drifted away from the investment style that had built his reputation: picking good listed companies able to pay good dividends. Instead, he began investing in smaller unlisted start-ups that can be very difficult to sell quickly.
At 10% of the fund, SA’s limit on unlisted securities is the same as it is for UK funds. However, Pieter Koekemoer, head of personal investments at Coronation, says SA funds rarely invest in unlisted equities the way Woodford did — they use debt instruments to invest in unlisted companies instead, he says.
But, he says, any assets in which managers invest — even listed ones — can become distressed and difficult to sell, as debt issued by African Bank did in 2014, and the suspension of shares of Tongaat Hulett did earlier in 2019.
SA investors are most likely to experience liquidity issues with bonds and investments in other parts of Africa, he says.
That Woodford didn’t anticipate the magnitude of redemptions and had little room to manoeuvre when markets turned against him raises questions about his fund’s risk management.Glacier by Sanlam’s Francis Marais and Dean de Nysschen
Stanlib’s Africa Property Equity Fund, for example, closed in 2017 but has still not been able to sell illiquid investments in Zimbabwe, Mauritius and Nigeria, resulting in investors being negatively affected.
Victoria Reuvers, senior portfolio manager at Morningstar, who analyses and selects managers and constructs portfolios for financial advisers, says Morningstar uses local funds that meet its strict liquidity criteria. The funds covered by their team have displayed good management with regards to risk management, including liquidity of their underlying holdings, she says.
SA is behind the curve in terms of what unit trust funds are allowed to invest in, and this benefits investors, she says.
Glacier by Sanlam’s head of research, Francis Marais, and its research and investment analyst, Dean de Nysschen, say a fund does not have to be massively exposed to unlisted or illiquid assets to run into trouble when many investors withdraw — 18% of Woodford’s fund was in illiquid assets at the end of 2018.
That Woodford didn’t anticipate the magnitude of redemptions and had little room to manoeuvre when markets turned against him raises questions about his fund’s risk management, they say. This emphasises the importance of having access to thorough research into the underlying holdings, the liquidity, risk management and the overall investment process of a fund, they say.
Sangeeth Sewnath, deputy MD of Investec, says as part of its risk management process, a unit-trust management company must stress-test the liquidity when performance is poor and investors pull out. Management companies cannot expect that a fund will continue to be a best-performing one and continue to take on new investments, he says.
In the UK, funds must have an authorised corporate director who checks that a manager does not stray from his or her stated investment philosophy and stays within the fund mandate and the law. In SA, unit-trust management companies fulfil this role.
Sewnath says Woodford appeared to have had undue influence over the authorised corporate director’s board. The checks and balances were not as rigorous as they should have been.
SA recently had its own governance problem in a boutique unit-trust fund that operated on the licence of another unit-trust management company. MetCI, the collective investment scheme business in the Momentum Metropolitan Holdings group, was fined R100m for, among other things, contravening the Collective Investments Schemes Control Act and failing to have proper risk management processes in place to manage and exercise proper control, oversight and governance of the Third Circle MET Target Return Fund operated on its licence.
The fund lost 66% of value to derivative positions in the equity market over three days in December 2015 when former finance minister Nhlanhla Nene was fired, sending markets into a tailspin.
Like the Woodford case, there should have been more robust checks on what was happening in the fund, Sewnath says.
Koekemoer says governance failures are more prevalent in funds managed by third parties on another unit-trust manager’s licence, but the fine imposed on MetCI will make unit-trust companies increase their focus on risk management. He said despite the proliferation of new boutique managers operating on other companies’ licences, very few have attracted large amounts of investment.
Reuvers says on the whole, governance and regulatory adherence is of a high standard in SA funds, but there are isolated failures, such as Stanlib’s oversight on its Africa Property Fund, which Morningstar reported to the Financial Sector Conduct Authority (FSCA).
Does SA have star managers who could fall to earth?
The UK’s Neil Woodford enjoyed star fund-manager status until his dramatic fall to earth. SA has moved beyond star managers and focuses more on companies or brands and their track records, says Pieter Koekemoer, Coronation’s head of personal investments. The Allan Gray, Coronation or Investec brand is now much more important than individuals, he says.
SA used to be focused on picking the managers who oversaw winning portfolios, but hard lessons have been learnt and investment professionals have realised the value of multi-asset funds that are typically managed by teams. In this way, the local market is a lot more sophisticated, less star-manager driven and ahead of the UK market, Koekemoer says.
Morningstar senior portfolio manager Victoria Reuvers says SA has star brands rather than star individual managers. This has changed over time and historically there were star managers, such as Piet Viljoen (previously at Investec who later founded RECM), Dave Foord from Foord Asset Management, Shaun le Roux from PSG Asset Management and John Biccard, of Investec’s Value Fund Manager, who have delivered great returns through the cycle and over meaningful periods of time.
There are pros and cons to brands being stars. A firm such as Allan Gray has displayed excellent long-term returns to investors and good stewardship, backed by a consistent and defined investment process. In this instance, their star status has meant investors stay invested and don’t chop and change when short-term performances are bad. The trust in the brand and process has resulted in investors staying invested, which is ultimately to the brand’s benefit, she says. However, the disadvantage is that investors do not ask questions about the disproportionally high level of fees managers charge and, as a result, the manager has no incentive to reduce fees for end investors.
SA asset managers all run their businesses differently when it comes to who manages the fund, says Sangeeth Sewnath, deputy MD of Investec Asset Management. Investec does have star managers, such as Clyde Rossouw, Gail Daniel and Biccard, but the company also makes use of co-portfolio managers and has a robust risk management process that should be able to unearth any issues, he says. Sewnath says succession and checks and balances can be more difficult in smaller, boutique managers.
Reuvers says in SA there are numerous boutique managers with reputable investment teams, solid investment processes and attractive fund offerings, yet it is harder for boutique managers to move money away from established managers as local investors are much more brand-cautious.
Glacier’s head of research, Francis Marais, and its investment analyst, Dean de Nysschen, say they prefer funds managed by high-quality teams with a good track record rather than star managers, and funds with strategies that are easy to understand and offer good liquidity.
Can your investment platform be liable?
The UK’s largest investment platform actively marketed investments in Neil Woodford’s Equity Income Funds, even after his performance began to lag that of his peers. Hargreaves Lansdown listed the fund on top 50 funds to buy and aggressively marketed it in return for discounted fees on the fund, the Financial Times has reported.
Investment platforms’ responsibility for the funds they recommend on buy lists is an issue the FSCA is grappling with as part of its retail distribution review.
Sangeeth Sewnath, deputy MD at Investec Asset Management, says most SA investment platforms merely offer you the ability to invest in funds from different managers. Platforms do due diligences on funds to ensure they comply with legislation, but they rely on the regulator’s processes to ensure that funds are adequately risk managed by their management companies, he says.
Local platforms do not play the role of promoter of funds, he says. When a platform does that, it is very different from offering a fund and the functions to invest. Advisers or discretionary investment managers are responsible for ensuring the funds they choose for you meet your requirements, but local platforms are not licensed to give financial advice, he says.
Investec has a shortlist of funds selected by a discretionary investment manager, 2IP. The list of funds isn’t a recommendation, but rather a list of funds that meet certain disclosed criteria, Sewnath says.
Hargreaves Lansdown, however, was licensed and offered consumers advice on how to choose funds for their needs, he says.
Glacier, the investment platform provider in the Sanlam group, has a fund buy list for its investors. Francis Marais, head of research, and Dean de Nysschen, research and investment analyst at Glacier, say Glacier does not guarantee the returns their funds earn, all of them come with a specific risk and it would probably not be possible to compensate investors if a fund failed.
They say the Woodford case highlights the importance of a sound and thorough due diligence process, which is especially important when compiling a buy list such as Glacier’s Shopping List.