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In the previous article we discussed how an investor can determine if the considered fund is in line with the level of risk that they are comfortable taking. This can be done by analysing the fund’s risk profile, the category as well as the investment objective on the Minimum Disclosure Document (MDD), or as it is commonly referred to, the factsheet. We also looked at what a fund benchmark is and how it is determined. In this article we will take a closer look at the two most important elements an investor must consider before investing in a fund – the fees and the performance. 

Fees: 

There are different fees displayed on MDDs, so it is important to understand what they mean. Firstly, there is an Initial Fee, that although they aren’t common anymore, there are still some funds that charge this fee as a once off, upfront payment to cover the costs of the initial admin to place your investment. 

We then get, what is known as the Annual Management Fee which is the fee paid to the investment manager of the fund for their knowledge, research and expertise. This fee is calculated as a percentage, plus VAT, of your investment in the fund and gets deducted from the return of the investment. It is important to consider this fee because the fund manager’s expertise is, in theory, what you are getting more by investing in an actively managed unit trust, rather than just buying some shares on the exchange and holding them passively. If the fund is not performing better than a passive investment you, as the investor, need to ask yourself whether or not it is worth paying this fee. 

When you look at a factsheet’s annual management fee breakdown you will notice there are different “fee classes”. This is because fund managers are allowed to charge different fees for their skills to different clients. They might have an agreement with an institutional investor to invest their client’s money in the fund at a discounted fee, which will show on the factsheet as a different fee class compared to clients that invest in the fund directly. 

Management fees, along with other administration fees such as the fund’s audit fee, bank charges, custodian and trustee fee, to name a few, all make up what is known as the Total Expenses Ratio (TER). This is a global standard, where all the above-mentioned costs are divided by the value of the fund to give investors a ratio that can be compared to other funds. 

We also have what is known as Transactional Costs (TC) which is a summary of any costs that the fund pays due to the ongoing buying or selling of assets. This includes, but is not limited to brokerage, security transfer tax, bond spread costs and STRATE contract fees. Naturally then, if there were more active trading in the fund the TC will be higher. 

The TC and TER is then added up to give us the Total Investment Cost (TIC) of the fund which is a summary of all costs an investor will pay to be invested in the fund. The benefit of a unit trust is however that some fixed costs are shared, such as auditing fees and banking charges. 

It is very important to note that all returns shown on the factsheet are after these fees have been deducted. Therefore, it may make sense to invest in a fund that delivers very strong returns, despite high fees. 

For this reason, some funds, especially hedge funds, also have a Performance fee. This is an additional fee that the fund manager may only get when the fund delivers a predetermined return. The principal is that the investor is benefiting from maximised returns because the investment manager is incentivised to deliver such high returns even after fees have been deducted. 

 Performance: 

As any MDD will always state – past performance is not an indication of future performance, and although this is true, it is important to consider the past returns, as it does give the investor insight into the fund manager’s ability. 

The performance of the fund is usually shown in one of two types of tables. It can either show a table with each month’s return since the inception of the fund, or usually with older funds, it can show the annualised returns of the fund over certain time periods such as 3 years, 5 years and 10 years. Annualised returns tell the investor what the geometric average amount of money is that they would have earned each year over a given time period. 

The return will also be reflected visually in a graph, usually plotted against the fund’s benchmark to easily show the investor how the fund is performing. 

Some factsheets may also show the investor the “maximum drawdown” which is the maximum observed loss from a peak to a trough of the fund, before a new peak is attained. Maximum drawdowns indicate the downside risk of the fund over a specified time period.

It is clear that a factsheet is a compact document that gives the investor a snapshot of what the fund is and whether they should invest in it. By understanding the universal information that must be presented on a factsheet, you as the investor, can be empowered to make informed decisions when considering different unit trusts.

Charne Olivier - Articles provider for My Wealth Investment

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Charne Olivier - Articles provider for My Wealth Investment

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