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History says little about future

History says little about future

Buy & hold (in a balanced portfolio) remains your best bet

By Andró Griessel

28 October 2019

How can you tell if a specific fund manager is successful or follows a process that delivers results?

Is one year of significant returns proof enough, or at least three? Or does it have to be as long as 10 years?  And if you choose someone today who has an exceptional 10-year track record, would that guarantee your chances of great performance for the next 10 years?

Let’s turn back the time to 10 years ago, when there were only 87 unit trust funds with a 10-year track record. (Today there are 437.)

I would assume that any sensible person in 2009 would NOT have looked for the WORST performing funds over the previous 10 years (since 1999) and opt to invest in them.

Most people would’ve invested in the funds with the best 10-year performance, giving both the adviser and client peace of mind that they are basing their decision on a decade of notable performance instead of recent short-term outperformance.

The graph below shows the 10 best performing funds for the period between 1 July 1999 – 30 June 2009. Notice the performance achieved (and relative position) over the next 10 years from 1 July 2009 to 30 June 2019 for the same 10 funds.

It’s discouraging to see that even a decade of performance data is still not a reliable indicator of future performance.  In fact, if you analyse the data you will find a negative correlation between the previous decade’s fund performances and the current decade’s fund performance.

We can therefore not assume that a fund with a decent 10-year track record relative to other funds will continue to outperform the other funds. On the contrary, the evidence suggests that the fund will actually underperform.

To further illustrate this point, I compared the performance of the previous decade’s bottom 10 performers with that of the last decade.

The reversal of results for certain funds are remarkable.

For example, the Old Mutual offshore equity fund had an annual growth of only 2.33% in the previous decade but after the last decade it’s the number one fund out of 437 funds with a 19.72% growth per annum.

Read the next sentence slowly, and attentively: 80% of the 10 worst performing funds in the previous decade outperformed the 10 best performing funds of the previous decade in the most recent decade.

It is understandable and advisable not to look at short-term fund performance (like 1 or even 3 years), but it begs the question; what information should I use to base my decision on when selecting a fund manager to manage my hard-earned money?

Like most things in life it’s easier to tell you what NOT do, than what you should do.

  • Don’t assume that if a specific fund performed well (mostly because of a specific asset class or sector), that it will continue to do so in future (and vice versa), even with 10-year plus (+) performance history.
  • Be cautious of funds that are concentrated in one specific asset class like resources; or a specific sector like financials; or is linked to a certain price mechanism (like offshore investments linked to the strength of the rand); or follows a specific rigid investment style.

Extremely high or low valuations in commodity prices, excessively high or low interest rates or exchange rates can all return to normal which can have a significant impact on exposed funds. These economic cycles can also take a very long time. Funds with more manoeuvrability in their asset allocation mandate is likely to achieve a better outcome for investors, especially when investor behaviour adjustments are made.

  • The price you will pay for an asset today, relative to its normal valuation, remains the best predictor of what your future growth is likely to be. Before you invest in a fund, asset or asset class, make sure that you have an idea of what stage of its valuation cycle it is in (cheap, expensive or somewhere in the middle).  It has been proved many times that blindly following your gut, unfortunately does not get you results.
  • The correlation between 20-year-performance and a reasonable performance during the first 10 years is positive and quite high. That means that if you invested 20 years ago (assuming you had a crystal ball) in something like the Investec Commodity Fund and stuck to your strategy despite long periods of negative performance later, then you would still have achieved a satisfactory 20-year return on your investment.  Similarly, changing your investment strategy after a decade of mediocre returns would’ve resulted in you missing out on the subsequent positive growth.

Both of the above supports a buy and hold strategy (assuming a balanced portfolio that is not exposed to single stock risks).

  • Notice how the Marriot Global Income fund experienced poor performance in both decades. I’ve previously stated that offshore income funds do not make sense in the current low interest rate environment. For those that are still eager to invest offshore, ensure that your investments are put to work, otherwise it would not do much better than a local money market investment would.

Therefore; take any historical fund performance data with more than a pinch of salt.  The process of making effective asset allocation decisions is unfortunately more complex than simply selecting funds with positive historical growth, even if it achieved great returns over a relatively long term.

Andró Griessel is a certified financial planner and managing director of ProVérte Wealth & Risk Management. Contact him at info@proverte.co.za.

Although all possible care was taken in the drafting of this document, the factual correctness of the information contained herein cannot be guaranteed. This document does not constitute advice and anyone planning on taking any financial action based on this document, is strongly advised to first consult with their personal financial advisor. ProVérte Wealth & Risk Management is an authorised financial service provider with FSP no. 5966.

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