Not Sure How To Choose A Fund? Right This Way.

• Look at the long term performance of a fund, even if it is not the strongest performer in recent times
• We want to invest in funds that is consistent in mitigating downside risk and maximising on upside potential
• Selecting a fund is only one piece of the puzzle, investors should also consider their desired exposures and risk profile before investing

It is without question that we always want to select the best fund for our portfolios.  In the minds of many, the “best-in-class” fund tends to be the one that can offer investors the highest returns among its peers.

Looking purely at returns alone, however, does not reveal much about a fund. Aside from besting its peers over a given period, we do not have a grasp as to how, and why, it outperformed. Was it because of superior long-term risk management, avoiding pitfalls where many failed to avoid? Was the fund manager shrewd in stock picking and portfolio construction? Or was it simply because the fund hit occasional jackpot winners from time to time?

These factors are important considerations for investors who want to make better informed decisions in accordance to their investment objectives and risk profiles. To have a better understanding of how and why top funds outperform, we have to look under the hood of the funds’ performance.

Since we have recently put out an article on ASEAN and communicated our positive views and have advocated investors to consider investing in the region, perhaps it would be apt to review some of the ASEAN equity funds on our platform, and reiterate why JPMorgan Funds – Asean Equity A (acc) SGD is our recommended choice for investing in South East Asia.

Look Long Term Instead Of Recent Performance

Three years – the magical number most investors require before they would even consider investing in a mutual fund. Following this norm, when we plot the five best performing ASEAN Equity funds over the last three years using our Fund Selector tool, the CIMB-Principal ASEAN Total Return Fund Class SGD comfortably edges out its competition.

Chart 1: CIMB-Principal ASEAN Total Return Fund seems like an obvious choice…

But is solely looking at a three-year performance sufficient to justify making an investment decision?

While aggressive investment strategies have the potential to produce strong outperformance over their passive counterparts during periods of market euphoria, the amount of risks such strategies undertake is unclear to most investors.

We advocate evaluating funds demonstrating a longer track record (e.g. 5-10 years) that have charted a good portion of the ups and downs of a market cycle, as it is equally important to evaluate how well or poorly a fund performs during market downturns Longer track records also serve as a more useful guide, given the relationship between past and future performance of mutual funds grows proportionately in reliability as more data becomes available.

Certainly the CIMB-Principal ASEAN Total Return Fund Class SGD has performed extremely well since inception. However, its track record only extends back to three years, a time frame insufficient to judge whether skill, and not luck, is a major contributor to its returns.

Fortunately, the other four funds have longer track records which allow us to take a closer look at their performances on a rolling basis, as tracking performing metrics  based on rolling time periods tell us how a fund’s behaviour changes over time. Funds exhibiting significant and persistent outperformance of the benchmark are the type of managers we want to invest in.

Estimating Managerial Skill

Many investors often look at a fund’s alpha – a term used to describe excess returns of the fund relative to the benchmark – when evaluating managerial ability. Given that sources of alpha may come from superior stock selection or risk management capability, persistence in alpha, especially over the long term, is generally a good indication that the fund manager is more skilful than lucky.

As a proxy to estimate alpha, the Upside and Downside Capture Ratio may be used in combination to evaluate how fund managers mitigate risk and maximise upside potential. Both metrics track how funds perform in periods when the MSCI ASEAN Total Return Index is positive and negative respectively.

An upside capture ratio above 100 suggests the fund’s ability to gain (loss) more during periods of positive (negative) market returns, while a downside capture ratio below (above) 100 suggests losses are mitigated (amplified) when market returns are negative. Funds with the ability to mitigate downside movements as well as maximise on upside potential on a consistent basis tend to exhibit significant excess returns relative to a benchmark.

Chart 2: JPMorgans ASEAN Equity Fund maximises on upside movements…

Chart 3: Is better shielded from downside risks…

We can also look to the funds’ 3-year rolling Information Ratio to understand how consistent and risk-efficient they are in generating alpha. A high Information Ratio across time indicates greater consistency in outperforming the benchmark (and vice versa), while a negative Information Ratio at any point in time suggests that the fund failed to outperform its benchmark.

Chart 4: And most importantly, exhibits some level of consistency in outperformance against peers and benchmark

While other funds have also performed well relative to the benchmark, JPMorgan Funds – ASEAN Equity A (acc) SGD stand out from the rest of the pack given its ability to outperform its peers and the benchmark on a consistent basis since the fund’s inception.

Past Performance Is One Piece Of The Puzzle

Does this mean that we should disregard the other funds? Not so fast. Since performance analysis tends to be backward looking, it only solves half of the investment puzzle. Investors ought to include forward looking elements into their analysis, as well as understanding how selecting a particular fund will interact with and change the geographical and sectoral exposure of their overall portfolio, before deciding to make an investment decision.

Investors wanting greater exposure to Thailand and lesser domestic exposure, for instance, may consider the Fidelity ASEAN A-USD instead. And those requiring less exposure to Financials and Malaysian equity markets in general may want to pick BlackRock ASEAN Leaders A2 USD for inclusion in their portfolios.

Although JPMorgan Funds – ASEAN Equity A (acc) SGD may be a standout performer amongst its other ASEAN Equity peers,  ultimately investors should construct their portfolios holistically by considering their risk profile, forward-looking investment views, and the type of exposure they require.

Leverage On Our Expertise!

We understand that doing research and investing on your own can be quite a daunting especially if you are one lacking the time, access to information, or is someone new to investing.

Let us do your homework for you with our annually published FSM Recommended Funds Report, as we hope it serves as a guiding light for investors who feel lost amidst the wide array of funds available on the FSMOne platform.  

As choosing the right fund is only one part of the investment process, newer investors are encouraged to approach any of our friendly advisors to help you identify a suitable asset allocation and desired exposure, in accordance to your risk profile.

The Research and Portfolio Management Team is part of iFAST Financial Pte Ltd.