Monday, 14 June 2010

Another look at AhYap's concern over the performance fees of i Capital Global Fund & i Capital International Value Fund

Capital Dynamics aka Tan Teng Boo wrote in his latest newsletter on the performance fees charged for his managed funds.  He elaborated on the 20% performance fee structure of the i Capital global funds.

To earn the performance fee, Capital Dynamics must deliver net returns of 6% on (1) a single year and (2) on a compound bases.  The 2nd hurdle rate is actually on a COMPOUNDED basis.  He pointed out how tough it is to compound 6% per annum PERPETUALLY.

He lamented how some supposedly smart investors do not even know that this 6% compound hurdle rate is a high water mark and that it is the toughest high water mark anywhere in the world.  In his newsletter:  "Any investor who scoffs at 6% compounding is either dangerous gambler or a conman."

There was a recent write-up in AhYap's blog stating his concern over the hurdles used by Capital Dynamics and how these severely impaired the returns of those who are invested in their funds; particularly during periods of high volatilities.

Perhaps, there should be added:  1 further hurdle and 1 extra condition.

(1)  A third hurdle that the performance fee is only charged when the NAV per unit of the fund exceeds the highest reached in previous years.


(2)  Another condition is on how the 20% performance fee is calculated.  This calculation should not be solely based on last year's NAV.  The 20% performance fee can be based on either the excess return above the 1st hurdle, the 2nd hurdle or the 3rd hurdle; always using the lowest excess value of these 3 hurdles in calculating the performance return.

In my opinion, AhYap's argument is sound, reasonable and his concern is valid.  Capital Dynamics has not addressed this concern adequately.  Hopefully, they will.  Will they?


An example using the 3 hurdles approach and calculating the performance fee based on the lowest excess value of these 3 hurdles.
https://spreadsheets.google.com/pub?key=0AuRRzs61sKqRdFZFTkRqUU1HYWpOeXNaam42OWp2TFE&hl=en&output=html

Also read:

Performance fees warning



8 comments:

K C said...

I have invested in unit trusts a few times in Malaysia and Singapore in the nineties and I can tell you that to earn a compounded annual return (CAGR) of 6% is indeed a very difficult task. I still remember I was induced to invest in unit trust because the unit trust agent had been telling me that the long-term return of equity investment was 12-15%. Why couldn’t my investment achieve even 6%? However, if one has acquired some investment literacy, he will understand that the unit trust agent might have oversold you a little bit but he did not really cheat you. The long-term annual return of equity in most markets, including Malaysia, Singapore, Australia etc is about 10% to 12%. So TTB’s statement that "Any investor who scoffs at 6% compounding is either dangerous gambler or a conman" Is not appropriate especially coming out from a reputable fund manager ( for the record, I did respect TTB from his past records). The problem lies on the fund management fees. An investor was charged about 6% upfront when he first put in money to buy unit trust. He is also charged an annual management fee of about 2%. Unit trust s are also usually subject to a high portfolio turnover which could cost an investor another say 1% a year. If an investor has a holding period of 5 years, all these fees can be amounted to 5% a year. Hence it is not difficult to see that 10%-5% will be less than 6% annual return. Some financial planning advisors charge an additional asset under management fee of 1.5% a year! However, If one were to invest in an Exchange Traded Fund like that of the Bursa equity ETF or the Vanguard Index funds, the transaction costs is less than 1% and you hold the fund for 5 years, your total cost is less than 0.8% per year and I am quite sure, an investor’s goal of earning 10% CAGR is not a difficult task. Have the fund managers provide you with additional returns compared to ETF? There are heaps of research findings, here and abroad, which are so clear and very difficult for anybody to argue about. In conclusion, I also agree with Bullbear’s posting and Ah Yap’s concern. Oh, I would like to recommend you to read a book titled, 'where are the customers' yachts'.
Cheers. K C

bullbear said...

KC, Thanks for your insight.

Besides searching for a good fund manager, the other key issue is ensuring that the costs of investing is kept reasonably low. As a general guide, one should make sure that these costs of investing (including brokerage commissions, mutual fund management fees, etc.) add up to less than 2% of your account's overall worth.

The market in the long run has delivered around 10 to 12%. However, due to the added costs, mutual funds will generally underperform the market returns by 2% or so. It is a 'superior manager' (minority) who can beat this market return consistently over a prolonged period.

However, the present performance fee structure of Capital Dynamic's Global Fund is rather disadvantageous, even detrimental, to their investors, particularly so in a highly volatile market. It has the effect of shifting a disproportionately large amount of the gains in a volatile market to the fund manager as performance fees while the fund investors' are still carrying significant losses from the previous market lows. This is a cost the investors need to know of, as it will definitely be a big drag on the returns of these funds.

Is a CAGR of 6% a very high water mark? Perhaps, you may wish to ponder on this further.

Eclectic Investor said...

To All Investor,

I personally feel 20% performance fee is reasonable. I personally invest in Global Market. It's very hard for you to diversify your porfolio due to small capital (RM200k).Ringgit is too small, u play 5-6k, can't cover those fee.


So, If you port to fund, it will be easy for you to allocate your fund average and manage the risk. If you play the share, you need a lot homeworks and times. 20% performance fee is just the salary for fund manager, you do nothing. Sit and wait to collect profit. So easy...

Instead of worry about performance fee, i would rather think how to find more $$$$ to invest...

bullbear said...

Eclectic Investor,

Thanks for your comment. I think the investors were not against the 20% performance fee. The contention is on how this fee was calculated, which is very disadvantageous to the fund investors.

bullbear said...

Ensure that more of your money gets invested instead of getting eaten up by fees.

Before you do anything with your money, the following six fees are worth asking about:

http://www.moneycrashers.com/investment-fees-you-need-to-know-about/#utm_source=rss&utm_medium=rss&utm_campaign=investment-fees-you-need-to-know-about

bullbear said...

If you feel compelled to use actively managed funds, however, look for a strong (and lengthy) track record and take these three steps to help ensure that your choice is grounded more in logic than in magical thinking:

1. Focus on expenses. There is no greater correlation to your long-term returns than your investment fees. The less you pay, the more you keep.

2. Seek stability. A manager with decades of experience working for a firm with a history of prudent trusteeship is most able to guide you through whatever the market does in the years ahead.

3. Focus on the long term. Successful investing is about slow and steady accumulation of assets over time. Don’t be captivated by the latest know-it-all managers bloviating on CNBC who were unknowns a month ago. Where will they be when you really need them?

http://moneywatch.bnet.com/investing/article/the-biggest-mistake-investors-make/355397/

Eclectic Investor said...

If you really a high risk taker, you can consider some extra strategies like leveraged investing by research high potential counter. It makes extremely high profit to your porfolio.

When big market sell down, you can either pledge your share to buy more and more. It gives you extremely high buying power to bet against Mr. Market.

For Fund, it should be suitable for non-professional investor, who don't really like to monitor their stock porfolio frequently.

In Fact, doing research on stock, consume times & spend a lot times on reading the report. If your capital is less than USD50k, it's hard for you to diversify your investment porfolio.

If you bet on 1-2 counters, you win, then u feel very happy. What happen if you fail? Exit from stock investing?

Fee is a lot for some investors as big concern. Sometimes, normal investor can perform well but sometimes no due to liquidity problem.

Small capital make you pay more for transaction fee too. Cost of transaction/purchase value > 1-2%, which is unreasonable if you invest global market.



Thanks.

yauwenchin said...

To diversify (at low cost), you can invest in ETFs (overseas) either via local brokers or Singapore brokers. There are various ETF you can consider (some are leverage, but must be cautious on leverage ETFs). You can buy long on MSCI Emerging Market ETFs, China ETF (long or short such as FXI or FXP), precious metal ETF (long or short), oil ETF, Water ETF, there are so many and with your USD50K (if you want) can realy diversify into various industries or countries.