Mary Holm: Managed funds still a good bet

I heard you talking on the radio this week about New Zealand's dismal D-minus rating in the recent Morningstar report on Global Fund Investor Experience research.

What does this actually mean? Should I be staying out of managed funds and sticking to rental property?

It would be a real pity if the survey, which ranked New Zealand last out of 16 countries, put anyone off investing in managed funds. While many of the Morningstar criticisms are valid, they are not strong enough reasons to avoid these investments.

In any case, there's already Government work under way to remedy some of the problems, and the industry has said it's willing to make changes. The survey might even encourage more rapid change.

Managed funds are basically vehicles in which lots of people's money is pooled to buy many investments - usually shares, property, bonds, cash or a combination of those. Almost all KiwiSaver or other superannuation investments are in managed funds, and they are also used for shorter-term saving.

A big advantage of managed funds is that you get much wider diversification than you could probably achieve yourself. Also, most people appreciate not having to keep track of dividends, interest or rent, or to make trading or other decisions about all the investments in the fund. The managers take care of that.

You do have to pay management fees. But overall, I reckon managed funds are the way to go for most New Zealanders' savings. This is especially true if you are doing the wise thing and putting some of your savings offshore. Directly investing overseas is considerably more complicated than doing it through a fund.

While at first it was shocking to see the survey - with New Zealand ranking behind Australia, Canada, China, France, Germany, Hong Kong, Italy, Japan, the Netherlands, Singapore, Spain, Switzerland, Taiwan, the UK and the US - many of its findings are fair enough. The ones that put New Zealand in a bad light are:

Our managed funds don't have to present their fees in a uniform way, so that it's easy to compare different funds. Nor do they have to give would-be investors "a numerical example that illustrates the total expenses that an investor could expect to pay". This is a really important issue that I've raved on about at times. But things are looking up.

The Investment Savings and Insurance Association (ISI), the managed funds industry organisation, says it is "already working to introduce improved voluntary standards for consistent disclosure of fees and charges and reports on investment performance".

And the Government's Capital Market Development Taskforce, which I joined a couple of months ago, is looking at ways investors could be given straightforward information about managed funds so it's easy to compare them. Some Government departments are also looking into this issue.

Here's hoping for change soon - including perhaps Morningstar's suggestion of a single website that contains all disclosure documents, something the US and other countries provide. "New Zealand could perhaps start with a KiwiSaver website," says Chris Douglas, fund analysis manager for Morningstar in Australasia.

Morningstar would also like funds to disclose what their fees have been over the years. "People could see if they've got more expensive, or if they're outperforming and have a performance fee. It gives someone more information and more power," says Douglas. It's something more for those looking at change to consider.

In New Zealand and some other countries, the custodian of the assets of a managed fund is allowed to be affiliated to the fund company. Morningstar recommends that if this is the case, the fund managers should explicitly say so.

ISI comments that this "makes good sense. ISI will be encouraging its members to adopt this as an additional voluntary disclosure". It would be better still if the law required it.

Funds in this country don't have to list the names of their managers and how long they have been in the job. In the US and China - which were ranked best and second best in the survey - this information is always included. Why not here?

In all countries except Australia and New Zealand, fund managers have to disclose what investments they hold. "New Zealand fund managers say 'That's my intellectual property'," says Douglas. But other countries make it work, one way or another.

With this information, investors could see which funds have high turnover - which is costly. "And they could see why their fund has gone down, which might make them less likely to sell when markets fall. Investors would have more buy-in," says Douglas.

The ISI responds quite positively to this. "It seems that disclosure of portfolio holdings would not be difficult to achieve. It is only a position at a single point, but if this is important then we will look at providing this information."

New Zealand scored badly for having relatively high minimum initial investments in funds. This is something managers might address, but it doesn't bother me much.

That's because many funds will also accept no minimum contribution as long as you drip feed a regular amount into them. In KiwiSaver, for instance, most providers will let non-employees put in $50 or less a month, and many have no minimum. And employees can put in 2 per cent of their pay regardless of how little that is.

The agency regulating the investment industry - in our case the Securities Commission - doesn't have enough staff and resources, Morningstar says. New Zealand came bottom for this. It's something the Government could change, probably not at huge expense.

New Zealand got credit in the survey for having KiwiSaver. "We think it's brilliant," says Douglas. "We wholeheartedly endorse it. KiwiSaver has brought better transparency from managers and low fees. We really hope our survey won't put off people from joining it.

"At the end of the day, if a few changes can be made to the investor experience, the investor wins and the industry wins, because there'll be more people going into managed funds."

However, this country scored quite badly on tax issues, despite the introduction of PIE funds in October 2007, which give considerable tax breaks. Almost all KiwiSaver funds are PIEs, as are many other managed funds. And, says Douglas, "the PIE structure is very good. It gives a more level playing field between funds and equities [directly held shares]."

But, says Douglas, not all New Zealand managed funds are PIEs. The ISI responds that many of the non-PIE funds are small "and the costs and difficulties from legislation requirements for closing or merging the small funds would exceed the value of taxation gains.

"The industry is actively encouraging individuals to voluntarily switch to PIE tax products as a more efficient means to bring value to investors," it adds. It's a message that people in non-PIE funds might want to take note of.

On the issue of tax rates, Douglas acknowledges that it's difficult to make international comparisons. But he would like to see more tax incentives for long-term investing. "In Australia, for example, the tax bill is halved if the investment is for more than a year." KiwiSaver does encourage long-term saving, but Morningstar wants more.

In some areas, New Zealand joined most other countries in having some worrying practices. For example, it's common to use sales contests to motivate sales of managed funds, and for advisers to be compensated for selling particular funds.

I would love to see these practices stop, but I suspect that falls into the "dream on" category. However, better disclosure - and more investor awareness of what to look for - would help. Again, the Capital Market Development Taskforce and others in government are looking into this.

The survey wasn't all bad news for New Zealand. We got a pat on the back for having investment statements - which are shorter summaries of prospectuses. And, to my surprise, we rank reasonably well on the level of fees for many types of managed funds - although we weren't so good on fees for fixed-interest funds.

What I like best about the survey is that it might prevent some people in the managed funds industry and in the Government from saying "we can't do that, it wouldn't work" - because many other countries are doing it.

It's heartening to see the ISI's response to some of the issues. But an industry organisation can't do it all.

Some fund managers won't join, or won't go along with all the guidelines.

Our Government must do more. The taskforce shares many of Morningstar's concerns, and is planning to make recommendations to fix things.

Here's hoping the Government takes up our suggestions - quickly and comprehensively.

Car lemons may not be the only fruit leaving a bitter taste in the mouth in last week's column. Do I detect a slight whiff of sour grapes?

Clive Matthew-Wilson (editor of The Dog & Lemon Guide) has a rather blinkered view, and he generalises too much, methinks.

In likening classic cars to expensive works of art, he expresses an absurd view as many owners will contend. Rarely driven!

Just look at the numbers of beautiful old classic cars on New Zealand roads on any day of the week. My car is regularly spotted on the roads, especially when my wife is behind the wheel - the Merc and her make quite a show.

Clive Matthew-Wilson's response: "Your correspondent doesn't appear to have read what I actually wrote. I never said that all classic cars are expensive works of art that are rarely driven.

"What I said was: 'Right now, the really rare classics are still reaching record prices because buyers see them as a hedge against economic recession.'

"But I warned: 'Expensive classic cars have no intrinsic value, even as transport, because they're rarely driven - they're essentially expensive works of art.' Such cars typically travel home on the back of special trucks or trailers; they're beautiful automotive corpses, interred in the garages of millionaires.

"I have the pleasure of driving a classic as an everyday vehicle. It is not an expensive classic. Nor will I ever recover the money I spent on it. Regardless of the cost of a classic car, however, I stand by my comments that classics - driven or not - are a very poor investment from a financial point of view."

Thanks, both of you. This makes a great change from shares, property, bonds and KiwiSaver. Now there's an idea - a KiwiSaver Classic Car Fund.

Can't see Clive lining up to invest in it, though.

Mary Holm is a seminar presenter, part-time university lecturer and bestselling author on personal finance. Her website is www.maryholm.com. Her advice is of a general nature, and she is not responsible for any loss that any reader may suffer from following it. Send questions to mary@maryholm.com or Money Column, Business Herald, PO Box 32, Auckland. Letters should not exceed 200 words. We won't publish your name. Please provide a (preferably daytime) phone number. Sorry, but Mary cannot answer all questions, correspond directly with readers, or give financial advice.