Management Styles of Mutual Fund Managers

Will have a bearing on fees, risk and diversification!

The management styles of fund managers describe the approach a mutual fund manager takes when investing your money.

There are a variety of different styles used by managers.

Which style you prefer will depend on factors such as the level of diversification you require, your risk profile, the management fees you are willing to bear and your tax situation.Some of the different types of management style are discussed below ...

Passive Managers

Passive management usually refers to managers who mirror the investments of their funds to a benchmark such as a particular stock exchange index.

Rather than making changes to their funds in line with the markets, they only change the investment mix to keep their funds in line with the benchmark.

Passive fund managers charge lower management fees as they generally do not do as much research as active fund managers. Therefore they can employ fewer staff.

Active Managers

Active managers include those who select stocks on the basis of their own judgement, research and analysis.

The objective of an active fund manager is to beat the market index by identifying and investing in assets that will perform better than the market as a whole.

They believe inefficiencies exist in the market which can be identified and exploited by research and analysis. Active stock selectors use a variety of techniques to identify investment opportunities.

One can distinguish between two types of active managers. Those who take a top-down approach firstly examine broad economic factors then narrow their focus to specific sectors of the share market and finally select the most favored stocks.

Those who take a bottom-up approach tend to focus firstly on analyzing company specific information such as sales and profit expectations.

'Over-active' active managers can cause tax problems for the individual investor by moving into and out of share investments in relatively short-term trades.

Churning is the term used to describe excessive buying and selling by 'over-active' active fund managers.

This type of activity may improve the performance of the manager but may not improve the net return to the individual investor.

The capital-gains tax incurred is passed on to the individual investor who then has to pay the tax bill that, in some cases, can amount to 60 per cent of the gross return from the fund.

Active managers have a habit of advertising gross returns and tend not to mention the tax implications which of course vary from investor to investor.

Value Managers

Value managers tend to focus on identifying stocks that are priced relatively cheaply by the market and below their intrinsic (calculated) value.

They look for stocks with lower than average price to earnings, price to book and price to NTA (net tangible assets) ratios, and higher than average dividend yields. These tend to be stocks which they think have been overlooked by the market.

Most value managers use these typical value criteria in a stock market screener approach to rank companies, as well as taking into account qualitative considerations.

These managers are more aligned to the value investing philosophy, but it needs to be pointed out that 'value' means different things to different people and can be loosely interpreted.

For example, a 'value' manager may see 'value' in a growth stock whose price to book value may be well above one.

Growth Managers

Growth managers tend to focus on those companies with excellent earnings growth potential. These companies typically have higher than average price to earnings, price to book and price to NTA ratios, and lower than average dividend yields.

This is because of the higher value the market places on these stocks.

Platform Fund Managers

Platform (or master fund) managers manage funds that are sometimes called funds-of-funds, multi-manager funds or pooled master funds. Rather than invest directly in shares and property, these funds invest in other managed funds in order to take advantage of the different management styles of a selected group of fund managers.

The rationale for mixing management styles in one 'pooled' investment is that at different stages of the share market cycle some styles perform better than others.

For example in a bull market, managers focusing on growth tend to do better than value managers. However, value managers come into their own when the markets are not so exuberant.

There are two kinds of master funds, discretionary and non-discretionary. The discretionary type lets you choose the fund managers, while the non-discretionary funds chooses the fund managers for you based on your risk profile.

To Conclude ...

In terms of value investing, I favor the 'value' management style as it focuses on company fundamentals, involves longer-term investment by the fund manager, and results in minimal churning of stock in and out of the fund.

However, I keep in mind that 'value' may mean different things to different people.

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