Investors in Investec Equity Fund enjoy index-beating returns

[First published in Personal Finance, January 2017]


Special Raging Bull Award for the Best South African Equity General Fund on straight performance for 21 years to December 31, 2016

Investors in passive funds that track market indices, take note. If you choose the right fund, you can, over the long term, beat an index comprehensively, net of costs. Nowhere is this better illustrated than in the Investec Equity Fund, the top-performing domestic equity fund over the past 21 years. Investors have received an annual average return of 15.87 percent over the 21-year period, as against 10.5 percent from the FTSE/JSE All Share Index (Alsi), according to ProfileData.

The Investec Equity Fund this week won a special Raging Bull Award to celebrate the 21st anniversary of the awards – for best straight performance over 21 years.

According to Investec, if you had invested R1 000 in the fund on January 1, 1996, your investment would have been worth R22 558 net of costs 21 years later on January 1 this year. If you had invested in a fund that precisely tracked the Alsi, you would have received R14 751, before the deduction of costs.

One of the fund’s two managers, Chris Freund, a co-manager since 2006 (the other is Rhynhardt Roodt, co-manager since 2012), says the Investec Equity Fund has proved a great fund for long-term investors. “Not only has it comfortably out-performed the Alsi over very long periods, but this has been achieved with less ‘heart failure’ risk, as annualised volatility has been about 1.5 percent less than the JSE averages.” Furthermore, the maximum drawdown, or drop in returns from peak to trough, have been no worse than the broader equity market.

This year, the fund celebrates its 30th anniversary. Back in 1987, when it launched, there was only a handful of unit trust funds invested in the local equity market, compared with roughly 180 funds today, not counting the specialist equity funds.

The fund’s relatively flexible stock-picking philosophy has remained consistent throughout the years, Freund says. “The long-standing global Investec 4Factor framework has served us very well, albeit with greater emphasis placed on ‘earnings revision at reasonable valuation’ factors when it comes to South African shares. Our objective has always been to deliver consistent out-performance, as opposed to volatile performance.”

Investec’s 4Factor strategy enables its equity portfolio managers to focus on companies they believe are high quality, attractively valued, improving their operating performance and receiving increasing investor attention. This approach has helped the Investec Equity Fund to beat the market consistently under a variety of conditions.

Although the past 21 years have seen the JSE change beyond measure, with a move away from resources being the dominant stocks, Freund says the constitution of the JSE has never been a big factor in determining the composition of the portfolio.

“We have never been overly fixated on the weightings of various JSE shares – we construct the portfolio in absolute space, choosing the best investments, and only then monitor the risks relative to the JSE indices. As a result, changes in the JSE do not automatically affect the shape of the fund. Furthermore, in the past we did not consider it appropriate to have nearly half of the fund in resources merely because the JSE was weighted that way, as the volatility and unpredictability of the sector was excessive,” Freund says.

The past two years, which have proved tough for even the most seasoned investment professionals, saw both ups and downs for the fund, he says.

“We did very well in 2015 – mostly on the back of good bottom-up stock selection from the wider Investec Asset Management analyst team – with low weighting in resources, overweight in Steinhoff, and by switching out of banks timeously.

“We struggled in 2016 with the considerable local and international volatility, which does not suit our investment approach. This meant we could place far less confidence in the sustainability of the corporate earnings revisions that were coming through, as the economic backdrop was potentially shifting very quickly. For example, had [finance minister] Pravin Gordhan actually been relieved of his post, the South African economic environment would have changed dramatically, with a huge impact on share and sector performance.”

Looking at 2017 and beyond, Freund is all too aware of the risks, but, like any astute stock-picker, is always on the alert for opportunities.

“There are still many risks out there, as there always are. However, it is our view that the levels of volatility in 2017 will be well below the at times almost seismic volatility of 2016, and hence we can look forward to the resumption of good returns,” he says.

“The Zuma replacement issue will, no doubt, cause considerable South Africa-specific noise, but the main downside risk remains any hard economic landing in China. We are going back to the ‘old normal’, an environment that we understand, where the United States is squarely in late-economic-cycle territory, with rising interest rates battling accelerating earnings. Indeed, there is an upside risk of markets melting upwards in response to strong late-cycle behaviour, similar to the mid-90s and 2000s. In South Africa, it is likely that the Reserve Bank will lower interest rates – thus the retail/banks/property/bonds cluster could well have a good year,” Freund says.

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