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SQM Research Ratings Update - Monday  22nd September 2014
Property Valuations
Research Reports
Discounted/Distressed Properties
Funds Research
Ratings Table

To see the entire table of SQM Research's fund ratings, click HERE

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Back to Basics -
Active or Passive Funds?

With Senior Investment Analyst, Aakriti Chona

This week, we speak in the context of domestic (or Australian) property securities funds and revisit probably one of the most basic questions an investor should consider while investing – whether to choose an active or a passive fund?

Passive funds by definition are designed to track the performance of the benchmark index. Essentially, such funds “hug” their chosen benchmark and produce returns in line with the benchmark over longer time periods. As a consequence, the fees charged by passive funds are typically low and range between 25 and 35 bps per annum.

Actively managed funds on the other hand, are aimed at providing investors with superior returns when compared to the chosen benchmark index by applying rigorous research and fundamental analysis to the stock selection process. Such funds may or may not choose to follow the benchmark, can even include ex-benchmark holdings or could adopt a benchmark-unaware strategy in order to provide superior returns to their investors. As such, given their nature, active funds typically command higher fees than their passive peers. According to SQM Research’s analysis, active funds typically command fees upwards of 70bps per annum.

The difference in fees typically stems from the depth of research applied by the fund’s investment team as well as the lower transaction cost resulting from lower portfolio turnover for passive funds.

In the context of domestic property securities funds, the chart below presents the returns of a peer group comprised of active funds and compares it to a peer group of passive funds, as well as one of the most commonly chosen benchmark indices – the S&P/ASX 300 A-REIT Accumulation Index.

Domestic Property Securities Funds: Period returns (net of fees) as at 31st August 2014

Source: SQM Research. Returns greater than one year are annualised.
click image to enlarge

It is noted that for time periods greater than one year, the returns of the active funds have surpassed those of the passive funds. However, where this has occurred, the magnitude of outperformance has been less than 1.0% p.a.

This makes us question – is it really worth investing in an active fund as opposed to a passive one?  We believe there is value in active funds. However, we also believe that not all managers are equal. Therefore, it becomes imperative for the eventual investor to conduct thorough due diligence prior to making their investment decision. Importantly they should not get swayed as a result of ‘herd mentality’ or snazzy marketing brochures. 

Domestic Property Securities Funds: Excess returns (net of fees) as at 31st August 2014

click image to enlarge
* includes only active funds. Excess returns are based on net returns after fees. The Legg Mason Real Income Fund has been excluded from this analysis given that it is benchmark unaware. The EQT SGH Wholesale Property Income Fund employs CPI+3% (over 5-year periods) as its benchmark. However, the ASX 300 A-REIT Accumulation Index has been used for the purpose of this chart.

Within the defined universe, there exist active funds that have been able to post superior returns to their respective benchmarks. This is evident from the chart above, which displays the average excess returns recorded by active funds rated by SQM Research versus the active funds that are not rated by SQM Research.

SQM Research strongly believes that in the end it boils down to the skills and experience of the fund managers of active funds. While passive funds might be best suited to the risk-averse investors, investors who are willing to bear higher risk should be rewarded with higher returns produced with the help of active stock selections.

SQM Research's Afternoon Of Property 2014
SQM Research would like to thank everybody who came along to our Afternoon of Property Event at the Hilton last Thursday, the day was a great success! We would also like to extend our appreciation to all of the amazing speakers and panelists who shared their valuable insights. We look forward to the opportunity to bring the industry together again next year. 
Thank you to our Sponsors -

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