SOUTH AFRICA: Make it multi-asset

JohannesburgMulti-asset funds have dominated retail inflows in South Africa in recent years. Can this growth continue? George Mitton reports.

South Africa is the financial leader of its continent by some way – its stock exchange is worth about six times the rest of the African exchanges put together. The country’s funds industry is likewise far more developed than those of, say, Nigeria or Kenya, so it is natural to look to the country as a bellwether for what will happen in the rest of the continent.

A survey of the country’s funds industry reveals at least one major trend: the rise of multi-asset funds. In the past five years, multi-asset funds have doubled their market share to account for nearly half of all retail and advised assets in South Africa. In the same period, the market shares of bond and money market funds have all fallen sharply. 

What’s behind this change, and will the trend continue?

“The major reason for the growth is that the retail investor, since the crash, has got jittery about volatility and decided that rather than choose for themselves if they should be in equities or bonds, they will let the fund managers make that call,” says Leon Camphor, chief executive of the Association for Savings and Investment South Africa (ASISA).

According to ASISA’s figures, which are drawn from retail and adviser data, and generally exclude institutional flows, the South African funds market is worth 1.6 trillion rand ($150 billion) as of the end of June. 

This means there is about 750 billion rand of retail money in multi-asset funds.

Multi-asset funds have reached that asset level by dominating retail fund flows in recent years. In the 12 months ending in June, multi-asset funds accounted for two-thirds of the net 151 billion rand that flowed into the South African industry.

As Camphor says, retail investors have been drawn to the products because managers promise to take care of asset allocation, an appealing proposition amid volatile markets. 

Inflows have been helped by poor yields on bonds and on money market funds, and by a perception that South African equities are expensive and at risk of a price correction.

In addition, multi-asset fund managers can use hedging strategies to protect clients’ assets. They might use forward contracts to hedge their exposure to fluctuations in the rand, which can be a volatile currency. 

However, South Africa’s conservative regulatory system does not allow fund managers to be too adventurous.

“The fund managers are allowed to use derivatives but not complex structures,” says Camphor. “They can use plain vanilla to hedge but not complex tools.”

Indeed, South African multi-asset fund managers are forbidden from using many strategies that are allowable under Ucits, the widespread European funds regime. They face restrictions on their asset allocation too. For instance, they are not allowed to invest more than 35% of the fund’s assets in foreign securities.

South African investors may soon have better access to hedge fund strategies, though. Under the Collective Investment Scheme Control Act, there will soon be two types of regulated hedge fund. 

One will be for retail investors and face restrictions on complex structures, the other will be for professional investors and be freer to use a range of derivatives and other exotic instruments.

Could there be a scenario where a new breed of South African hedge funds upset the funds market by grabbing a larger share of retail inflows, and perhaps outpace multi-asset funds? 

Camphor thinks the inflows from retail investors will not be large, and that the main interest will come from wealthy investors or pension funds, which are allowed to invest up to 10% of their portfolios in hedge funds, but generally haven’t so far.

Will multi-asset funds continue their ascent? In five years, will multi-asset funds have risen to account for 70-80% of the retail market? This scenario is possible, though there are reasons to doubt the growth will be that fast. One is fees.

“With the multi-asset trend in South Africa, the seed of destruction has been fees charged,” says Jaco van Tonder, sales director, Investec.

“You often find dramatic premiums charged for multi-asset products. There has been a move in the adviser space, through the appointment of external consultants, to construct their own products by buying specialist mandates from providers with low prices, and effectively taking back the asset allocation decision from the fund manager.”

This trend could see advisers regain some of the power to allocate client assets that they lost when they started channelling money into multi-asset funds and, during this process, advisers would expect to gain a lot more in fee revenue. 

Up until 2007, financial advisers generally took client money and invested it in the adviser’s custom blend of equity, bond and property funds. It is natural for some advisers to want to return to this status quo, and if they can manage to undercut expensive multi-asset fund fees, they may achieve it.

Whether they succeed depends partly on how low fees can go. In Europe and the US, many online platforms are now offering investors very low-cost tracker funds from the likes of Vanguard and BlackRock, which offer passive exposure to indices such as the S&P 500 at a fraction of the cost of actively managed funds. 

However, van Tonder says passive management has yet to gain traction in South Africa, which means these very low-cost options aren’t available in the domestic market. The problem is the relatively small size of the South African market in global terms, which means the economies of scale realised by passive funds are not as significant compared to larger markets.

Another factor that will affect multi-asset funds is returns. In recent years, many fund managers have found that asset allocation has been a more fruitful source of returns than individual stock picking. But if this were to change, multi-asset fund managers might fall from favour. 

“If the market goes sideways and alpha comes from stock picking and not asset allocation, we might see some headwinds for asset allocation funds,” claims van Tonder.

In light of these potential obstacles, van Tonder does not expect multi-asset funds to increase their market share quite as fast as in recent years, during which multi-asset funds have at times captured more than 80% of net retail fund flows.

“That growth rate is stark,” he says. “I suspect that number will come down to 50-60%.”

©2014 funds global mena

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