1. Managed Funds Chapter 7 PowerPoint presentation by Lindsay Cowling
Holmesglen Institute
©2011 John Wiley & Sons Australia, Ltd

2. Introduction The managed fund industry is made up of:
superannuation funds
unit trusts
managed investment schemes
It is important to understand the role of managed funds in a balanced investment portfolio
Managed funds allow the unit holder to choose asset allocations to achieve objectives whilst maintaining their desired levels of risk

3. Growth and Characteristics of Managed Funds
Managed investment schemes are also known as 'managed funds’
Generally in a managed investment scheme: people are brought together to contribute money to get an interest in the scheme ('interests' in a scheme are a type of 'financial product' and are regulated by the Corporations Act 2001)
money is pooled together with other investors or used in a common enterprise
a 'responsible entity' operates the scheme - investors do not have day to day control over the operation of the scheme

4. Growth and Characteristics of Managed Funds
A managed fund operates under a trust structure where investors pool their money with other investors in order to buy into a portfolio of assets managed by a professional manager
The assets will be managed by the manager according to the stated investment goals of the investor

5. Domestic Funds Under Management in Australia (2010)
FUM
$ billion consolidated
Share of total
Superannuation
846.2
63.5%
Life Insurance
182.0
13.6%
Public unit trusts
259.4
19.4%
Other managed funds
47.9
3.6%
Total funds
1335.5
100%

6. Characteristics of Managed Funds
A managed fund is an indirect investment in assets under the control of a fund manager
A managed fund is characterised by the:
Type of assets the fund invests in
Management structure
Tax concessions and tax structure
Regulatory structure required for its operation

7. Characteristics of Managed Funds continued
As a pooled investment structure a managed fund provides investors with the potential to benefit from:
Decreased investment costs
Decreased investment risks
Increased investment returns

8. Characteristics of Managed Funds continued
The managed fund structure provides opportunities for investors to access:
One or all of the asset classes
Sub-categories of asset classes
A particular asset mix

9. Characteristics of Managed Funds continued
Managed funds can be either listed or unlisted
More common for property-based managed funds to be listed than managed funds holding other asset classes due to valuation and liquidity issues

10. Growth of Managed Funds
Significant growth of managed funds industry in Australia evident over last 30 years
Principal contributing growth factors in Australia include:
Deregulation of the financial markets commencing in the early 1980s
Government incentives and legislation affecting superannuation funds since the early 1990s

11. Regulation of Managed Funds in Australia
Three pillars of financial services regulation
ASIC
Monitors managed fund industry
Ensures compliance with Corporations Act
Regularly issues policy statements and proposals outlining changes and highlighting areas of concern including changing trends

12. Regulation of Managed Funds in Australia continued
APRA
Supervises banking and financing industry
Regulates superannuation funds via Superannuation Industry (Supervision) Act (SIS)
RBA
Monitors broader economy – systemic risk
Monetary policy
Control of the payments system

13. The Structure of a Managed Fund
Responsible Entity (RE) provides role of both managed fund trustee and manager
As a trustee managed fund assets are held in the name of the RE
The RE is required to:
Operate as a public company Australian Financial Services Licence holder
Maintain a specified minimum level of net tangible assets

14. The Structure of a Managed Fund continued
REs are regulated by the Corporations Act which imposes responsibilities on both the company and its officers with breaches punishable by significant penalties

15. Managed Fund Constitution and Compliance Plan
A constitution must be part of the establishment of a managed fund which outlines the:
Process of admitting and withdrawing investors including the basis of assessing investment pricing for:
Investment powers of the RE
Complaints resolution process

16. Managed Fund Constitution and Compliance Plan continued
A compliance plan provides operational details of how a managed fund will meet its regulatory and constitutional compliance obligations

17. Product Disclosure Statements
A Product Disclosure Statement (PDS) is required where a managed fund is offered for investment by retain investors
PDS is regulated by the Corporations Act
Purpose is to disclose such information as might be expected to have material influence on an investor’s decision about whether to invest in that product…

18. Unit Holders
Unit holders are fund investors who are the beneficiaries of the investments undertaken by the managed fund
Investors share in distributions made by the managed fund
Ownership in a managed fund is evidenced by a certificate stating the number of units held

19. Using Managed Funds as a Diversification Strategy
Managed funds provide investors with a greater choice of assets than direct investing
Using managed funds helps investors build a diversified portfolio of investments

20. Benefits of Diversification
Purpose of undertaking diversification is to minimise managed fund risk exposure without sacrificing risk-adjusted returns
Diversification across managers
Active or passive investment approach
Index-linked portfolio management
Sector specific skills
Tactical asset allocation via market timing

21. Benefits of Diversification continued
Diversification across sectors
Exposure to different asset classes benefiting from cyclical returns for each asset class
Diversification across countries
Enhanced portfolio returns via country specific market cycles.

22. Risk Profiles of Managed Funds
Managed Fund Category
Risk Structure
Recommended investment period
Cash management
Low
Less than 1 year
Fixed interest or government bond
1 to 5 years
Property
Medium
5 to 10 years
Shares
High
Balanced funds — investing in all asset classes

23. Risk Profiles of Managed Funds continued
Managed Fund Category
Risk Structure
Recommended investment period
Diversified — investing across different sectors of investments
Medium
1 to 5 years
International — investing in foreign assets
High
5 to 10 years
Hedge
Very High
Difficult to estimate

24. Risk Profiles of Managed Funds continued
Typical fund assets of each managed fund category:
Cash management funds
Short and medium-term Australian government, semi government and Australian commercial interest-bearing securities
Short and medium-term foreign government, semi government and foreign commercial interest-bearing securities

25. Risk Profiles of Managed Funds continued
Fixed-interest funds
Short / medium and long-term Australian government, semi government and Australian commercial interest-bearing securities
Short / medium and long-term foreign government, semi government and foreign commercial interest-bearing securities
Hedging using swaps, options, futures

26. Downside of Investing in a Managed Fund
Fees – entry fee, management expense ratio etc
Unit holder has no control over what investments are acquired and timing CGT events
Choice of the most appropriate fund – can be hard to choose

27. Risks of Investing in Managed Funds
Market risk
Security risk
Currency risk
Liquidity risk
Gearing risk
Taxation risk and
Beta risk

28. Types of Fees May include Establishment fee Contribution fees
Withdrawal fee
Management costs
Switching fee
Adviser service fee

29. The Indirect Cost Ratio (ICR)
…the ratio of management costs not deducted directly from investors’ account balances to the average net assets of the fund
ICR’s vary from 0.4% to 3% pa
…sometimes referred to ‘management costs’

30. Management Expense Ratio (MER)
The ratio of fees charged to the value of assets under management
The MER is a tool used to compare the effectiveness of fund managers
The usual range of MERs is 0.5% to 3% of the value of contributions of FUM
MER enables investors determine how much of the contributions are used toward the operating costs of the fund vs. invested in income or growth producing assets

31. Selecting a Managed Fund for Investing
Criteria:
The investment objective of the fund
The nature of the fund’s investments
Is the fund listed or unlisted
The type of investors the fund attracts
The investment structure of the fund
…will determine the overall performance of the fund, its risk profile and costs

32. Unlisted Managed Funds
Open ended funds that issue new units when new monies are invested and buy back existing units when an investor withdraws
Unlisted funds do not pay tax in their own right if they distribute income to unit holders
Most unlisted funds have a buy – sell spread
Unit price is a function of Net Asset Value (NAV)
NAV = Fund assets – Fund liabilities Number of units issued

33. Unit Prices for Unlisted Managed Funds continued
Example
Fund manager provides investor with the following information
Assets
Cash $ 30 M
Bonds $ 60 M
Equities $120 M
Property $ 30 M
International equities $ 60 M
Liabilities
Debentures (loans) $ 35 M
No. of units issued
NAV=$300 M – $35 M
= $16.46

34. Listed Managed Funds Investors buy or sell units or shares on the ASX
Main types are:
Listed investment companies
Issue shares, operates as a closed end structure
Listed investment trusts
Issue units rather than shares
Real estate investment trusts
Manage a property portfolio
Exchange traded funds
Track and duplicate the performance of a particular market index

35. Types of Investments Single sector funds: Cash management funds
Fixed interest funds
Property funds
Share or equity funds
International funds

36. Types of Investments Diversified funds
Conservative funds
Balanced funds
Growth funds
Retail funds target individuals whereas wholesale funds target institutional investors or more sophisticated, professional individual investors

37. Investment Structures
Master funds
An administration service that pools money together from investors and provides access to a range of different fund managers and investment options
Wrap accounts
Investments held within a wrap account are held in the name of the investor and so can be transferred between different wrap providers without triggering CGT

38. Investment Structures
Benefits:
Investor only deals withy one organisation
Managed funds can be accessed at cheaper wholesale MER’s
Consolidated reporting for performance, asset allocation and tax
Drawbacks:
Investor must pay an administration fee

39. Management Styles
Different management styles may be more suited to particular investor’s risk profiles
Two main investment styles:
Active
Passive

40. Active Fund Management Styles
Involves regular trading of assets within the fund to establish the best asset mix for current and projected market conditions.

41. Active Fund Management Styles continued
Methods used to establish asset mix include:
Tactical analysis
Fundamental analysis
Technical analysis
Contrarian analysis
Quantitative analysis

42. Active Fund Management Styles continued
Value fund managers
Focus on assets income generating potential
Growth fund managers
Focus on assets potential capital growth or gain

43. Active Fund Management Styles continued
Asset selection and analysis based on
Top-down approach
Bottom-up approach

44. Passive Fund Management or Benchmark / Indexed Funds
Investment managers seek to replicate rather than attempt to outperform a benchmark or widely publicised index
Changing asset values / index or benchmark construction will require assets to be bought or sold by a managed fund

45. Passive Fund Management or Benchmark / Indexed Funds continued
Performance of managed fund is determined by the asset class invested in:
If the asset class performs poorly, so does the benchmark / index fund
If the asset class performs well, so does the benchmark / index fund

46. Taxation Issues for Managed Fund Investors
Taxation Office position on managed funds:
Investors should pay the same tax rate on managed fund investments as they would on direct investments
Fund managers provide details of payment sources with investor distributions

47. Taxation Issues for Managed Fund Investors continued
Tax deferred distributions impact on future taxation arising from capital gains / losses
Capital gains tax treatment of distributions vary between fund managers
Details of taxation implications of managed fund investment included in PDS

48. Measuring Managed Fund Investment Returns
Absolute investment returns are measured by:
r = (sale price or current market value) – purchase price purchase price
× 100
r =

49. Measuring Managed Fund Investment Returns
Measuring returns from a fund
Rp = (MV1 – MV0) + D 100
MV0
Rp =
× 100
where R0 = return on fund
MV1 = market value (end of evaluation period)
MV0 = market value (beginning of evaluation period)
D = any distributions from client’s portfolio during evaluation period

50. Measuring Managed Fund Investment Returns
Standard deviation
A statistical measure of the variability of a particular distribution of returns
Tracking error
A measure of how closely the returns of a managed fund follow the returns of a particular index
Information ratio (excess return / tracking error)
A measure of the extent to which a fund has outperformed an index benchmark after adjusting for risk
Sharpe ratio
A measure of the risk adjusted performance of a fund

51. Shape Ratio Risk-adjusted returns SIp = Rp – Rf x 100 σp Sip = × 100
Where SIp = Sharpe index
Rp = return on fund or portfolio
Rf = risk-free rate of return
σp = standard deviation of returns from fund or portfolio

52. Summary Managed funds provide a form of indirect investment
Diversification is a significant benefit arising from investor contributions to managed funds
Fund managers can adopt either an active or passive style of management
Returns on managed funds can be measured in different ways requiring the application of various formulae.