One of the keys to success in unit trust investment is to review the costs associated with the fund you intend investing in.
In the past, this was often like swimming in the murky waters of Hartebeespoort Dam - transparency just wasn't very good and you were likely to become slightly ill when confronted with your annual bill.
But a few years ago the collective investment schemes industry uniformly decided to clear the matter up and introduced a simpler and more understandable concept - called the Total Expense Ratio (TER).
It started being rolled out in 2007, but this was not re-inventing the wheel as it was already an internationally accepted standard.
Since then it has made life a lot easier for analysts and investors sizing up a fund.
But it is still quite tough to simply use TER as a basis to select a fund because there is a disparity between performance measures and other costs. It is not as simple as looking at the rate and picking the fund with the lowest rate.
For example, some of the funds may not have been keen to take a big slice of the losses and so investors must be wary of rewarding managers for simply matching an index.
Some managers have actually been on meagre rations during the crisis and are desperately hoping to make a meal of the turn in the markets as their performance measures have been very steep, and they have taken large hits on the downside in some cases.
Keep in mind that the TER will be lower if the fund performs below its target performance level and higher if it outperforms that level.
Basically, the TER is a measure of the total costs associated with managing and operating an investment fund such as a unit trust fund.
These costs internationally consist primarily of management fees and additional expenses such as trading fees, legal fees, auditor fees and other operational expenses.
The total cost of the fund is divided by the fund's total assets to arrive at a percentage amount, which represents the TER.
The Association for Savings & Investment (the industry body - the Financial Services Board is the regulator) shows a varying degree of rates - from a 0.03 percent cost (RE-CM) to 4.61 percent (Coronation) for flexible asset allocation funds.
The general equity funds vary from 0.01 percent (Stanlib Shariah) to 4.48 percent (Allan Gray).
But should investors simply jump at the low cost funds? This is, unfortunately, not the case as fee structuring is not uniform despite the cost measure being a standard one. In fact, unit trusts, have different philosophies about sharing in the losses and profits and the extent of that, and how much they should be charging for simply managing an asset.
Of course, Allan Gray has consistently been the top performing fund in the country and thus can argue it justifies a higher charge for the services and a big administrative operation that needs to be run. The paperwork mountain at Allan Gray is certainly enormous.
When looking at TER, and the clear disparity between costs on offer, investors need to enquire into high performance charges down the line.
For example, one of the funds with a low cost mentioned above has a 20 percent sharing rate in profits and losses above a hurdle rate.
So some funds have fallen on their swords and take losses if they were below a certain index target, which has been a very tight margin in some cases.
The last thing investors want is an index-related return, minus fees, but this is often the case and this is why investigating costs remains important.
But more important is that returns can match up in the tough times, and not just the good.
On costs, it is also important to note that prudential, or pension funds, generally have lower TER's than many of their unit trust counterparts. Allan Gray's Prudential Balanced Fund, for example, has a TER of 1.84 percent.
I was always taught to avoid costs and returns that seemed too good to be true, because they probably were. It is possible some funds have attempted to use low costs simply to lure investors, but that would only work if they could match that with returns. - I-Net Bridge
From Business Report published on September 23, 2010
