How I Evaluate Unit Trust Fund Performance

For me, stock picking is hard. I do not have the time, patience, temperament, strategy, and required skills to value a business.

Below are some of the common questions asked by investors while valuing a company.

1. Do I understand the business/company/industry?

2. Is the stock price cheap?

3. Even though it is cheap, is it a good business?

4. Does the company have a competitive advantage over its competitors?

5. Can the company survive and prosper over decades even during a period of inflation and recession?

6. Is the company being managed by a capable and trustworthy management team?

7. Is the management team good at reinvesting profits for future business expansion?

8. Are the financial statements clear and simple?

I’m sure there are other considerations but the above set of questions itself shows that I will need to spend a considerable amount of my time valuing a business.

Even then, I’m quite sure I’ll enter into an “analysis paralysis” mode as I wouldn’t know how to choose or differentiate the relevant information from the irrelevant ones and be ignorant of much other crucial information that could assist my decision-making.

So, what options do I have?

Index Fund

I could invest in an index fund or an ETF that tracks the performance of an underlying index. Say, for example, I would like to invest in companies listed in our local KLCI index. Instead of buying the stocks of all these 30 companies, I could simply buy FBM KLCI ETF which tracks the performance of these companies.

This will be simpler than buying and maintaining 30 stocks in my investment portfolio. Also, it will be cheaper in terms of Ringgit (less trading) and time-saving as I don’t need to research and analyze any of these companies.

The tradeoff though, I’ll lose any potential to outperform the market or the index¹. Assuming the KLCI index generated a 10% return for the year. Investors invested in FBM KLCI ETF will also earn 10%, before fees. The same is true if the index underperforms as index funds track the market return.

But what if I would like to earn higher than the market return?

Fund Managers

Do your homework or hire wise experts to help you. Never jump into a business you have no idea about.

John Templeton

Well, I could leverage or outsource the stock-picking decision to professional fund managers. Since it is a full-time job, we can assume they have more experience and are exposed to relevant investing information.

In Malaysia, most of the fund managers are from the unit trust industry. Even Private Retirement Scheme (PRS) funds and the insurance industry utilizes unit trust investment. If you own an insurance policy, there is a high chance of a unit trust fund being tied to the policy.

Usually, when investing in a unit trust fund, we are required to pay an upfront service fee in the range of 1%-6%. This is quite expensive and riskier than investing in an index fund, therefore it is only right for investors to expect fund managers to add value to their investments by beating the market returns.

So how should we evaluate a unit trust fund or to be precise, the fund manager’s performance?

Evaluating Unit Trust Fund Performance

I usually only look at the below 3 metrics when evaluating a unit trust fund performance:

1. Fund benchmark

2. Fund annualized/total return against the benchmark

3. Annual return for calendar years ended on 31^st December

A fund benchmark can briefly tell us the asset classes and the regions the fund is invested in. It can also be used as a standard to measure the fund manager’s performance against the benchmark.

Think of the benchmark as an index fund. In the earlier example, the KLCI index produced a 10% return, meaning investors invested in FBM KLCI ETF would have made 10% too. However, a unit trust fund measured against the KLCI index may outperform or underperform the benchmark’s return.

Ideally, we would like the fund to outperform the benchmark as we are taking more risks and paying a high % of service fees to the fund managers. If the fund underperforms a benchmark, then it is a double blow for investors as the return is lower and we spent a significant amount of money for underperformance.

To illustrate the above points, I’ll share three unit trust fund’s performance I’m invested in, two from Public Mutual and another from Eastpring Investment, a fund from my Prudential medical insurance policy.

Fund 1 – Public Global Select Fund (PGSF)

Fund Name: Public Global Select Fund (PGSF)
Management Company: Public Mutual
Launched Date: 28-Sep-2006

PGSF – Benchmark

Fund Benchmark: 90% S&P Global Large Cap Index & 10% 1-Month Kuala Lumpur Interbank Offered Rate (KLIBOR)

We can expect the fund to invest 90% of its investment into large-capitalization companies globally and the balance 10% into local Malaysia money market instruments.

PGSF – Fund annualized/total return against the benchmark

Do note the values listed in the above chart are dated 31st March 2022 and the chart is broken down into two sections, Total Return, and Annualized Return.

In the first row “Year-to-Date” (1st Jan 2022 till 31st March 2022), we could observe the Total Return of the fund is -7.51%, while the benchmark return is -4.33%. This means if you would have invested into the fund on 1st Jan, then your investment return will be down by -7.51%, before fees. In this instance, the fund is underperforming the benchmark.

In the second row “1-year” (1st April 2021 till 31st March 2022), we could observe the values are identical for both Total and Annualized Return. This is expected in the first year of investment. Anyway, the fund Total Return is still lagging the Benchmark by -2.73% (3.84% – 6.57%), before fees.

In the “3-year” row², under the Annualized Return section, the fund has outperformed the benchmark by 3.63% (15.56% – 11.93%) and this extra 3.63% produced annually translates to an extra 14.15% (54.52% – 40.37%) of the fund Total Return, before fees.

To understand this point, assume 3 years ago Investor A invested RM100,000 into the fund while Investor B invested the same amount into the index/benchmark. After 3 years, Investor A’s investment would have grown to RM154,520, before fees while Investor B’s investment would have grown to only RM140,370.

Jumping straight to the “10-year” row, we can observe the difference in Annualized Return is only 1.27% (11.83% – 10.56%), but the difference in Total Return between the fund and the benchmark is 33.11% (206.12% – 173.01%), before fees. This is the power of 1% compounded over a long period of time. The difference between both returns is the value added by the fund managers. 

PGSF – Annual return for calendar years ended on 31^st December

In this evaluation, I would like to check how often the fund managers are able to outperform the benchmark in each calendar year, from 1st Jan to 31st Dec. For this fund, the fund managers were able to outperform the benchmark 12 times in the past 15 years. That is around an 80% success rate.

If you’re terrific in this business, you’re right six times out of 10.

Peter Lynch

I consider fund managers are adding value to my investments when they can outperform the benchmark two-thirds of the time. We should give some room for errors as the market can be volatile in the short term, but over the long term, I expect the fund managers to outperform the benchmark.  

Besides the success rate over the long term, I also like to evaluate how the fund performs during a crisis or when the market is down. As an example, during the Great Financial Crisis (GFC) in 2008, the benchmark return for this fund was -37.22%. We can naturally expect the fund to perform poorly too but by how much? In this case, the fund outperforms the benchmark by 0.89%.

The next market down period was in 2010. The benchmark return was -0.43% but the fund return was 2.80%. That is 3.23% of outperformance by the fund managers. However, in 2011 the fund underperformed by -5.09% and in 2014 and 2016, the fund gave a positive return but against the benchmark it underperformed by -0.52% and -4.48% respectively.

The majority of the time though, the fund outperformed the benchmark.

Now, moving to the second fund.

Fund 2 – PruLink Equity Fund (PruLEF)

Fund Name: PruLink Equity Fund
Management Company: Eastpring Investments
Launched Date: 15-Jul-1997

PruLEF – Benchmark

Fund Benchmark: FTSE Bursa Malaysia Top 100 Index (FBM 100)

We can expect the fund to invest its investment into the top 100 companies in the local Malaysian market.

PruLEF – Fund annualized/total return against the benchmark

The Annualized Return is missing from this report, but we can observe how well the fund managers have managed to provide a positive Total Return for the 1-Year, 3-Year, and 5-Year columns while the benchmark Total Return for these three periods is in negative territory.

To be honest, as an investor earning 10.96% Total Return, before fees after 5 years is quite poor, but I can’t fault the fund managers here as they are mandated to invest locally in the Malaysia market and the local market, especially the large-capitalization market has been performing poorly since the end of 2014. In fact, it’s quite impressive for the fund managers to provide a positive return against the benchmark over this period.

The “Since Inception” columns show the Fund has produced a Total Return of 338.15% since 1997 while the benchmark only managed to produce 66.35%. That is a significant amount of outperformance produced by the fund managers. So, kudos to them.

PruLEF – Annual return for calendar years ended on 31^st December

In a nutshell, over a period of 11 years, the fund outperformed the benchmark 10 times and the fund managed to provide a higher return against the benchmark in every period during a market downturn.

I have shared two funds performing well against their benchmark. The next fund I’m invested in is an example of underperformance, but I must stress the fund was launched less than 2 years old. By right I should not be evaluating it, but I would like to share an example of an underperforming fund.

Fund 3 – Public e-Carbon Efficient Fund (PeCEF)

Fund Name: Public e-Carbon Efficient Fund
Management Company: Public Mutual
Launched Date: 9-Feb-2021

PeCEF – Benchmark

Fund Benchmark: 90% S&P Global 1200 ESG Index & 10% 3-Month Kuala Lumpur Interbank Offered Rate (KLIBOR)

We can expect the fund to invest 90% of its investment into global companies, primarily in the United States that comply with Environment, Social, and Governance (ESG) standards, and the balance 10% into the local Malaysian money market instruments.

PeCEF – Fund annualized and total return against the benchmark

Even though the fund has produced a positive total return, it has been underperforming against the fund benchmark. Having said that, I’m still invested in this fund and will continue to do so as it is too early to evaluate the fund. I’ll wait for another year or two.

Here’s a question for us to ponder. Say after 10 years, you are earning a 7.22% Annualized Return, but the benchmark is producing an 11.87% return. Will you be happy that your investment is growing positively, or will you start grumbling about the fund manager’s performance?

EndNote

In my short experience of evaluating funds, I have seen funds underperformed for years and then out of a sudden, they start performing. Then there are cases of outperformance followed by years of underperformance. I have also noticed some funds tend to perform poorly against the benchmark during a bull market, but they tend to be good defensively against the benchmark during a bear market. There can be many scenarios.

Anyway, just to be clear, the goal of this post was to evaluate the fund manager’s performance against the fund’s benchmark. It’s not to compare fund returns or how to choose funds. Also, this is just one way to evaluate. There are other ways to do so.

Happy evaluating your funds.

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¹It is well documented that it is not an easy feat to outperform the market consistently. Most fund managers fail to beat the market over the long term.

²In my opinion, since unit trust investment is meant for long-term investing, we should only start evaluating a fund’s performance from the 3^rd year onward.