Manager Research

We’ve been asked by a number of clients what our view is regarding the Allan Gray Equity fund changes.  As a refresher the changes are:

1.  The inclusion of offshore equities in the portfolio, up to 25% which will be accessed via Orbis.  In addition they can hold up to 5% in African listed equities.

2.  Change in benchmark, from FTSE/JSE All Share Index to the “market value-weighted average return of the South African-Equity-General sector, excluding Allan Gray funds”

3.  Change in fee.  A flat 1.00% is charged when performance is in line with benchmark, and then there is a 20% performance fee on excess returns above and below that, calculated on a daily basis.

How the fee works

There will be two fees charged in the fund:  a local fee paid to Allan Gray on local assets only; and an offshore fee paid to Orbis for the offshore assets.  Each fee has its own structure and is applied to the relevant part of the portfolio, resulting in a composite fee (TER) to the end investor.  The summary of this fee is as follows:

*the minimum fee is zero, however for severe underperformance (ie below zero) this is also accounted for ‘offline’ and needs to be recouped before more fees are charged – this is the High Water Mark principle.

Depending on how the total fund and the offshore assets perform, will determine the total fee in the fund.  Examples under different scenarios are illustrated below, showing the old and new fee structure:

Our comments on the fee structure:

• What can be seen is that the new fee structure is cheaper than the old structure.  This applies to the majority of performance outcomes.


• The benchmark being peer based is not ideal – we would typically prefer an objective market based benchmark.  In this instance the benchmark is also influenced by differences in underlying fund restrictions (some can’t hold offshore for example).  Saying that, it is also not clear that this benchmark will perform materially differently to a broad market index approach.  Top 10 benchmark holdings shown below: (source:  FE Analytics)

• Being calculated daily, this does now provide better alignment with the client as you only pay for what you get, there is no legacy past performance which current clients pay for.  This does however make the total fee (TER) more volatile than in the past.


• The fee structure is symmetrical which is a good outcome for clients:  outperformance and underperformance are treated the same way.  Most performance fee structures do not do this.


• Removing the fee cap is not ideal, however the symmetry of the fee does provide a fair outcome (because there is also no ‘negative’ fee cap).  The level at which the old cap of 3% would be exceeded is also quite extreme – around 14% annualised outperformance.


• The overall cost in total is 0.10% to 0.20% higher than most competitor funds, primarily due to the Orbis component being relatively more expensive.  Clients must decide for themselves whether this premium is worth paying for.

Inclusion of Offshore into the fund’s mandate

Asset flows in the SA unit trust industry are heavily skewed towards ‘solution’ funds –  ie multi-asset funds which deliver an overall managed solution to the client.  With the inclusion of offshore, this fund now moves into that realm where it now offers an ‘aggressive/growth’ return solution, as opposed to an SA equity return outcome.  This places the offshore decision in the hands of the Allan Gray team rather than the client, which is often (but not always) a good thing depending on the client.

From an investment perspective, having an offshore universe to include in the funds investment options is a good outcome. It means that the risk/return profile can be managed more efficiently.  The one issue the Allan Gray team will need to deal with is the alignment between their own views, and what Orbis are doing.  Multi-asset ‘solution’ funds thrive on making integrated decisions, and in this case that is more difficult to implement.

Conclusion

There are pro’s and con’s to the fee as discussed above, and in the majority of cases clients will be better off.  Including offshore in the fund is a good outcome whichever way you look at it and improves the performance potential. For clients not wanting offshore, there will be an SA only version of the fund available, benchmarked against the All Share Index.  We continue to recommend this fund to clients.