CAPE TOWN – Metropolitan Collective Investments (MetCI) has refused to allow Moneyweb to see the findings of its investigation into the Third Circle MET Target Return Fund. The fund lost investors 66% in two days in December after it was unable to favourably unwind an extensive number of derivative positions that it had taken.
The losses were incurred on 11 and 14 December, in the market turmoil that followed the sacking of Finance Minister Nhlanhla Nene.
The severity of the losses forced the fund’s management company, MetCI, to launch an investigation into what had taken place. As this is a white label fund, MetCI is ultimately responsible for it.
This investigation was concluded last week and on Friday February 4, MetCI’s CEO, Mickey Gambale, informed Moneyweb that: “MetCI has investigated compliance of the Third Circle Met Target Return Fund in relation to the events of 11-14 December 2015. MetCI has found that the Fund is compliant with CISCA (Collective Investment Schemes Control Act) legislation and mandate. This was confirmed by our Trustees, Standard Bank of South Africa”.
Moneyweb asked to be sent the full investigation report, but Gambale would not release it.
“The investigation conducted is one of an internal nature,” he said. “As such we would not be in a position to release this information to the public.”
He added that the report would not be released to investors either. It would however be sent to the Financial Services Board (FSB), the industry regulator.
In an attempt to make sure that there was clarity on this matter, Moneyweb escalated its request to board level at MMI Holdings, Metropolitan’s parent company.
Initially MMI gave assurances that it would answer these questions, but last Thursday group communications manager Anneke Hanekom told Moneyweb:
“We have consulted internally and are of the view that we have already commented on this matter. We have provided our findings in terms of our compliance investigation and the outcome and cannot go into further detail in that regard”.
MetCI’s decision not to release the report however raises further issues. The most problematic is that the company is likely to face criticism that it was conflicted in the matter and therefore could not be impartial in its determination.
A finding from MetCI that the Third Circle MET Target Return Fund was in any way non-compliant, would in essence have also been a finding against itself. If the fund was in breach of legislation, by implication, MetCI would also be in breach as the management company.
MetCI also declined a request from Moneyweb to see the trades executed by the fund on the two days in question and the positions that it took. Gambale said that it is not industry practice to release trade information as “the portfolio strategy and trade positions are proprietary information”.
These are two of the key reasons why many in the industry have felt that the FSB should conduct its own investigation. Only an independent assessment would leave no doubt as to what took place.
Without exception, every asset manager that Moneyweb has spoken to has expressed concern about the reputational damage this episode has done to the industry as a whole. They have reported how they have had to field a number of queries from clients and financial advisers on the matter.
Industry opinion is therefore unequivocal that the regulator should be acting to ensure that people don’t lose faith in the system. It should not be possible to lose 66% in a unit trust structure in two days, and when that happens, the regulator has a responsibility to investigate.
Collective investments should be stable, understandable, accessible investment vehicles, and they should be seen to be as such. Nobody should be creating the impression that losing 66% in two days is in any way acceptable.
Unfortunately, that is exactly what MetCI’s investigation appears to have done.
Below is the list of questions from Moneyweb that MMI refused to answer:
- Did MetCI find that nobody did anything wrong either leading up to or during the two days in which the Third Circle MET Target Return Fund lost 66%?
- Can MetCI please provide a detailed explanation of what caused the losses in the fund?
- FSB board notice 90 contains the following paragraph under Chapter 1 – 3(2)c: “Prior to a manager including any financial instruments or unlisted securities in a portfolio, it must satisfy the trustee that a risk management program designed to identify, measure, on a daily basis, and adequately cover risks emanating from exposure to the security, is in place and is efficient.”
Is MetCI satisfied that such a risk management programme was in place and that it was efficient? If it was in place and was efficient, how did it fail?
- FSB board notice 90 contains the following paragraph under Chapter 1 – 3(8)c: “The manager must ensure that the listed or unlisted financial instruments are not used to leverage or gear the portfolio and are covered at all times.”
How did the Third Circle MET Target Return Fund meet this requirement? Does it not go without saying that the financial instruments were not covered, otherwise these losses would not have been sustained?
- FSB board notice 90 contains the following paragraph under Chapter 5 – 15(1): “The sum of the effective exposures of listed financial instruments to be maintained in terms of this Chapter, together with the market value of all the physical underlying assets in the portfolio, may not exceed 100 percent of the market value of the portfolio.”
At the end of September the fund had more than 82% of its portfolio value in margin accounts. By definition, the amount of cash held in a margin account is never to the full value of the exposure. It is usually somewhere between 10% and 50%. The fund would therefore appear to have had effective exposure beyond 100% of the market value of the portfolio. The extent of the losses appears to bear this out as the fund lost many multiples of what took place in the market.
How, then, could the fund be compliant?
- How is it possible to lose 66% in two days in a fund that is compliant with board notice 90, given the diversification rules in the notice?
- The fund’s mandate specifically states that it aims to “offer stable positive returns”. For 19 of the 37 full months that this fund has been operating, it has either shown gains of greater than 5% or losses of more than -5%. Even before last year December it was the most volatile fund in its category by nearly three times. In what way does this reflect “stable” returns?
- The fund’s mandate is to have a risk profile that is moderate to high risk. December was the fourth month in which this fund has lost 15% or more in a single month. In what way does this represent only moderate to high risk?
- Gambale is correct that “MetCI is responsible for the governance and oversight of the fund and to ensure that the portfolio is managed in accordance with the Collective Investment Schemes Control Act (CISCA) and mandate”. However, it is also responsible for signing off on the fund fact sheets. Why was there no disclosure on the fund fact sheets that the fund held extensive derivative positions? This only changed on the December 2015 fact sheet, after the losses and after questions were asked about this point?
- MetCI is also responsible for ensuring that risk governance is correctly observed. As I have pointed out to Gambale the historic volatility displayed by this fund was exceptional. When I first asked whether MetCI hadn’t felt it necessary to question the fund’s strategy given this volatility, Gambale said that this would form part of the investigation. Post the investigation I asked the same question again, and he declined to answer it. Why is MetCI not willing to answer this question? Did the extreme volatility in this fund not cause MetCI to question the strategy it was employing?