From the archives: Insider Sean Peche exposes SA’s Balanced Funds ripoff: How Big Three unit trusts fleece savers

First published on 11th August 2022

In this powerful exposé of a R320bn ripoff, straight-shooting financial insider Sean Peche says despite massive underperformance, SA’s Big Three Balanced Fund unit trusts are harvesting billions every year from clients via management and ‘performance’ fees. The mushrooming of these funds into R100bn giants is driven by marketing and profits, and has nothing to do with returns to savers – which have been pathetic. The fiercely independent founder of UK-based Ranmore Funds says it’s high time SA’s savers accepted their best protection against market volatility is not through abdicating to a guaranteed loser like these big Balance Funds – but by taking responsibility, adopting a long-term approach and keeping a close eye on costs. Peche, who is based in London, will be delivering a keynote address at the 4th BizNews Conference to be held at Champagne Sports Resort in the Drakensberg.

By Sean Peche*

Sean Peche

“Clients don’t like volatility” or should I say, “clients hate NEGATIVE volatility”

So, the Fund Management industry found a solution – the Balanced Fund – a “blend” of local and offshore equities with bonds and cash to “smooth” returns.

What’s not to like? Many of those words could describe a fine Bordeaux blend or artisanal coffee.

Now, when the word, “plunge” appears on the front page of the Financial Times, causing clients to instantly call their advisors, they can be hastily reassured they’re invested in “Balanced” funds, designed for this very moment (and possibly to “balance” client emotions).

The entire strategy has been a rip-roaring success. According to Bloomberg data, three of the five largest South African unit trusts today are Balanced Funds, with over R320bn in assets – the other two are income funds.

So I took a look at the fact sheets of these three “oil tankers” and instantly noticed their charts showing performance lines tracking above their benchmark – rather key to raising R320bn. What were these benchmarks, I wondered? Well, one was against a benchmark of large peers (convenient since most managers underperform), one against a constructed benchmark of local and global assets and the last “depends on fund performance over the previous 12 months relative to CPI +2%” – no mention of “high watermark” so presumably performance holes older than a year aren’t filled before the performance fee kicks in. Nor the performance “sharing ratio” on any of the funds – rather fundamental, don’t you think?

But I could see the latest TICs: 1.33%, 1.86% and 1.94%. Amazingly 8% performance in ZAR over the past year incurred a performance fee in one of the funds and perhaps a performance fee was rolled up into the “Fund management fee” of 1.24% in another fund, it wasn’t clear. But if 1.24% is the going base rate for a R94bn fund, I need to start a Balanced Fund NOW!

So then I took a look at the performance in USD of these three funds using Bloomberg’s Total Return Analysis function, incorporating the performance of dividends reinvested. Now as my LinkedIn followers will know, I’m no fan of investing solely on what’s happened over the past 10 years, for the simple reason that the world is constantly changing. But that aside, let’s all recognise the past 10 years have been fairly exceptional times with low inflation, monetary stimulus, falling bond yields, etc.

To set the backdrop, know that over this period, (all in USD), the MSCI World Index returned 10.73% p/a with dividends reinvested.

The JSE Top 40 only returned 3.27% – surprisingly low given the commodity boom and Naspers, which did 15% p/a in USD. Global Bonds returned 0.1435%, according to the Bloomberg Global Aggregate index.

For local cash I’m going to use the return of the largest SA money market fund at -3.5% p/a.

To calculate a simple benchmark, how about we go with a mix of 50% local equities, 25% offshore equities, and 12.5% local cash & bonds and 12.5% global bonds? That gets me 3.9% p/a in USD.

So what’s been the actual experience for a client who invested in each of these three funds 10 years ago in USD?

2.2%, 2% and 0.97% net of fees.

What happened to the difference?

Based on the latest TICs, I’m going to guess fees, and / or bad asset allocation – you might think management fees of over R3bn for these three products would buy some performance, but seemingly not.

The problem is that fees are a certainty and performance isn’t.

So even in arguably the best times for equities and bonds, the fees (base & performance) of both local and offshore partners, has made it very hard for these funds to add value. Meaning the odds of investors growing their savings in real terms in these large vehicles, during arguably far tougher times ahead, is, I would politely guess, slim.

In almost all fields, simplicity trumps complexity and investing is no different. You can say I’m “talking my book” but if you’re invested in a large balanced fund (some smaller ones I looked at did better), next time you meet your advisor, ask them why a few simple global equity funds (that don’t charge performance fees) aren’t a better solution for you (assuming you have an investing horizon beyond five years)? It certainly would have been a better alternative to one of these large balanced funds over the past 10 years.

Of course, that can only happen if you, dear investor, take a “cement pill” and harden up to a little more volatility, leaving your advisors alone when the headlines “scream”.

But at least you’ll stand a chance of earning a real return. The alternative is simply staying where you are and paying fees for mediocrity. Just don’t forget there is a R3bn revenue stream behind those funds telling you what a good idea it is.

Source: Bloomberg, TRA function, USD, 06/08/2012 – 08/08/2022, June fact sheets

  • Sean Peche is the founder of UK-based Ranmore Funds.

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