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How equity funds performed through the JSE’s ups and downs

There have been two distinct periods over the past 10 months.

Investors should usually only judge the performance of equity funds over long time frames. This is because it can take years for the stock market to move through different cycles, and you should want to measure how a fund performs in different market conditions.

Sometimes, however, a market can experience distinctly different environments in a short space of time. It can be interesting to observe how funds perform in these different periods, even though they are relatively short.

Sharp decline, steady recovery

This has been the experience on the JSE over the past 10 months. For the three months from the start of September to the end of November last year, the market experienced a sharp decline. The FTSE/JSE All Share Index (Alsi) fell 12.6%.

In the seven months since then, however, the market has made a steady recovery. From the start of December 2018 to the end of June 2019, the Alsi was up 17%, taking it back to more or less where it was 10 months earlier. Over the full 10-month period, the Alsi was up 2.3%.

Insights and lessons

Studying performance data from Morningstar over these two periods reveals some fascinating insights. They contain some important lessons for investors.

The first thing worth noting is that if you divide the funds into quintiles by their performance (in other words, the top 20%, next 20% and so on), the overlap from one period to the next is minimal. As the table below shows, there is very little correlation between how a fund performed in the down cycle and how it performed in the subsequent recovery.

Performance of SA equity general funds
Downturn Recovery
September 1 to November 30, 2018 December 1, 2018 to June 30, 2019
Quintile Percentage of funds still in the same quintile
First 18.75%
Second 12.5%
Third 32.26%
Fourth 25.81%
Fifth 3.23%

Source: Morningstar

The most consistent funds were those that were average or below average. The least consistent were those that performed the worst in the downturn. They were most likely to perform better in the recovery.

Extending this analysis reveals just how notable this is. The table below shows how funds in each quintile in the initial period went on to perform in the subsequent period.

Performance of SA equity general funds
Downturn Recovery
September 1 to November 30, 2018 December 1, 2018 to June 30, 2019
  Percentage of funds in each quintile
Quintile First Second Third Fourth Fifth
First 18.75% 15.63% 12.5% 9.38% 43.75%
Second 9.38% 12.50% 21.88% 25% 31.25%
Third 9.68% 29.03% 32.26% 16.13% 12.9%
Fourth 25.81% 19.36% 22.58% 25.81% 6.45%
Fifth 38.71% 25.81% 9.68% 22.58% 3.23%

Source: Morningstar

What this reveals is pretty stark. More than half of the funds that were in the top two quintiles during the downturn were in the bottom two quintiles in the recovery period. Conversely, the funds most likely to be in the top quintile during the seven-month recovery were those in the bottom two quintiles during the initial market fall.

The lesson in this for investors is that anyone who sold out of a fund purely because it was a particularly poor performer when the market fell would have made an error. In fact, the best indicator of how well a fund was going to perform in the recovery was how poorly it had done just before that.

This becomes even more interesting when you compare how funds performed over the combined periods against just the downturn. Unsurprisingly, there is a fairly large correlation between the funds that did well in the downturn, and those that did best over the full 10 months. This is a fundamental of investing – you want to minimise your losses.

What is interesting, however, is that the second highest percentage of funds in the top quintile over the full 10 months were those in the bottom quintile during the downturn.

Performance of SA equity general funds
Full period Downturn
September 1, 2018 to June 30, 2019 September 1 to November 30, 2018
  Percentage of funds in each quintile
Quintile First Second Third Fourth Fifth
First 46.88% 15.63% 6.25% 12.5% 18.75%
Second 15.63% 25% 31.25% 18.75% 9.38%
Third 12.9% 22.58% 35.48% 16.13% 12.9%
Fourth 12.9% 22.58% 12.9% 32.26% 19.35%
Fifth 12.9% 16.13% 12.9% 19.35% 38.71%

Source: Morningstar

A related point worth noting is that funds tracking a broad market index generally performed poorly in the downturn. The Satrix Alsi Index Fund, the CoreShares S&P South Africa Top 50 Fund and the Gryphon All Share Tracker were all in the bottom quintile for this three-month period.

Performance of index funds
Fund September 1 to November 30, 2018
Gryphon All Share Tracker Fund -12.2%
Satrix Alsi Index Fund -12.59%
CoreShares S&P SA Top 50 Tracker Fund -12.93%
Category average -10.05%
FTSE/JSE All Share Index -12.56%

Source: Morningstar

This is particularly notable, because only 21 of the 157 funds in this category underperformed the index. That is just 13.4%, which is much better than the long term average.

There is still a fair amount of debate around and research into whether active managers outperform in falling markets, but they certainly did so over this period. Investors were substantially better off with the average active manager than they were in an index tracker for these three months.

What is more telling, however, is that that outperformance wasn’t sustained. Over the full 10-month period, two of the three index trackers were top quintile performers, and the third was at the top of the second quintile.

Performance of index funds
Full 10-month period
Fund September 1, 2018 to June 30, 2019
Satrix Alsi Index Fund 1.61%
CoreShares S&P SA Top 50 Tracker Fund 1.47%
Gryphon All Share Tracker Fund 0.83%
Category average -1.71%
FTSE/JSE All Share Index 2.28%

Source: Morningstar

In a complete reversal, the index trackers performed well ahead of the category average, and only 23 funds delivered a better return than the top-performing index tracker. Of those, five were smart beta funds, meaning that only 18 active managers outperformed. That is 11.5%.

That is pretty remarkable given the extremely poor showing of index trackers in the initial market fall. Through the cycle, however, they showed significant resilience.

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Interesting article Patrick – seems to show that Sentiment still controls decisions and market flows!
Even if decisions were computer generated, this would be based on historical sentiment .. The stock market is actually a true reflection of human nature and the one place where human beings seem to unify in joint decisions and actions without too much persuasion, purely based on sentiment.

For fund managers I thought flows are dictated by perceptions and calculations of value be it in oversold or overbought territory. Also that risk is reduced by profit taking with reference to the original purchase price.

The article seems to suggest that within a group of leading funds we should buy the worst performers to benefit the most?

From graphs of same sector fund growth one can often see periods where one fund accelerates faster than most. The difficulty is to anticipate this.

The influence of international markets and currency is massive in the local equity market sector. Some fund are invited up-to 30% in offshore equity’s, with some funds 100% local equity. It make sense that a fund with international exposure will do better when international investors disinvest out of emerging markets and vice versa. I think you will finds that funds with a lower drawdown in the selloff hold international assets, and funds in the recovery hold SA only assets.

The tracker funds only hold SA assets, I would argue that the way they are constituted pay a bigger role in the recovery that the fact that they are tracker funds.

This article seems rather wishy washy.

Who measures returns in 10 month periods?

Interesting article, thanks Patrick.

So from what I can see, index/tracker funds will be better for the long term compared to active managed funds. Not only are index funds cheaper, but they also seem to outperform most active managers when markets perform while they under perform most active managers in tough times.

Assuming clients have a monthly recurring premium and we consider rand cost averaging, clients can purchase additional units in an index fund when markets are down which will then be to their advantage when markets pick up? I do believe active managed funds have a role to play in a clients portfolio, but this role is becoming limited. Another pro for index funds in long term investing.

Just received my quarterly statement for my Allan Gray Balanced Fund showing a 2.5% quarterly decline.Surely this is not reflective of the market or am I missing something.

Allan Gray have under performed dramatically, predominately due to their offshore exposure (read Orbis), but also local stock picking.

Ask them how much RAND value they have lost on BATs. Nearly 6% of a R38bil equity portfolio…. down 24% over the past 12 months.

Still charging you 2% for that pleasure though.

10 September 2009, US Congressional Hearing on the role of risk-management models in the crash of 2008:
Nassim Taleb, witness and author of The Black Swan: “Fund managers and bankers are grossly overpaid and incentivised to reckless behaviour. It is like heads I win, tails you lose”

Member of Congress:” But how will we attract the best talent if we don’t pay them?”

Taleb: “What talent? These people destroyed 10 trillion dollars of wealth!”

after a lot if reading I came to the following conclusion as the best strategy
1. be patient and wait for the next crash
2. buy after crash..STX40 and other offshore trackers
3. stay in market for +- 5 years and sell all.
4. stay in cash and other good income products.
5. wait for crash
6. buy again
7. repeat growth in first couple of years after a crash…..

The manner in which global stock markets operate have changed dramatically over the last 10 years. It is NOT a true reflection of human nature any longer (as much as 40% of trading in EM economies are algorithmic trading – automated trading systems!) These trading systems react to news headlines, technical indicators, trends etc which in turn dictate investor sentiment. This is why we are experiencing huge swings up and down in stock markets. Stock markets have therefore become more speculative than ever before. In addition about 50% of the JSE is traded by foreigners. I don’t believe staying fully invested is the right advice anymore. I have proven that a cash based technical analysis strategy (using unit trust funds) outperforms the ALSI and I sleep much better at night ….

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