Fund ratings increasingly popular as a differentiator of fund quality
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Global Credit Ratings |22 June 2017
Fund ratings have become important differentiators of risk and performance, especially as the need to find safe-haven investments and to protect cash grows. This is according to Omega Collocott, Sector Head for Financial Institution Ratings at Global Credit Ratings (GCR), who presented to a gathering of the top SA treasurers attending the recent Nedgroup Investments Treasurer’s Conference held in Johannesburg.
“Fund offerings, and credit rating movements in South African entities, are becoming more complex and more difficult for the average investor to understand, especially in the context of the current challenging environment. Fund ratings and the fund ratings process provide consistent and independent information to investors. While historically fund rating demand has been limited to money market and ‘cash strategy’ funds, GCR has seen an increase in range of funds requesting information on fund ratings in recent months,” she says.
Collocott says a fund rating provides an opinion on the potential for Net Asset Value (NAV) or return variability of a fund; it is an assessment of the fund’s relative ability to preserve capital and ranks a fund by portfolio quality and return volatility, relative to an assumed ‘lowest fund risk’ benchmark which considers the specifics of the South African environment. “A fund rating is essentially giving an investor an understanding of potential return volatility and underlying credit risk, while also assessing the quality of fund management processes. An investor would generally expect a higher rated fund to have a slightly lower return, lower benchmark yield, and lower volatility. It is this set of assessments, embodied in the independent fund rating, that supports investor decisions when choosing between funds.”
According to Collocott, it is primarily corporate treasurers at this point who specifically look for a fund rating.
“Corporate treasurers have a lot of cash to manage at the moment and there is mounting pressure on them to invest it smartly, and diversify investments. The last time there was so much cash on corporate balance sheets was in 2010/2011 in the aftermath of the financial crisis. Given poor economic prospects in South Africa, investment has stalled and treasurers are looking for more yield at a level of risk they are comfortable with. They may also be considering slightly longer investment horizons than in the past. A fund rating is one more independent opinion that they can utilise when deciding where to invest surplus cash,” she says.
Furthermore, Collocott says a fund rating is an extremely detailed assessment of a fund that does not just focus on fund performance, but is also specific about risk. When rating an investment fund, a ratings agency will utilise all publically available information on the fund and the fund/investment management company, as well as additional information provided by managers, to analyse the management of the fund, historical performance and return volatility, and inherent fund risks.
Collocott explains that GCR will specifically look at the following:
- The fund mandate: How strict the mandate is and how much scope is there for various risk/return outcomes within the mandate.
- The investment guidelines of the fund: If there is quite a lot of scope to implement the mandate, what the investment guidelines set for the fund by the fund manager are, what has the manager done in the past and how this has been communicated.
- Historical patterns: Whether the fund manager has been consistent in its management of the fund.
- Practice in action: What the fund manager has actually done (including how the fund has performed against its benchmark and whether it has been managed within the mandate and investment guidelines.
These elements are considered together with the risks of the underlying portfolio to determine an independent fund rating, which is monitored on a quarterly basis and subject to detailed annual review. Given the intensity of the analysis, and the often limited capacity of investors, particularly corporate investors, to perform such in-depth processes, it is understandable that some fund managers are choosing to provide fund ratings when marketing their funds.
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