The value of active investing

The biggest benefit is the ability to mitigate risk – Sasfin Wealth

As active managers across the globe struggle to outperform the index consistently, there have been growing questions about the value of active investing.

While debate is healthy, the discussion about active and passive investing has often degenerated into arguments about the “better” approach. Yet, both elements can be successfully combined to build diversified portfolios to suit a client’s individual needs.

Clinton Sprong, head of private clients at Sasfin Wealth, says there is no question that the two can complement each other.

“The benefit of the active component is that you are actively making decisions about what passive investments you want to invest in. It is part of the construction of the portfolio to meet your client’s needs and that is very much an active decision.”

The South African context

Sprong says due to the structure of the Johannesburg Stock Exchange – where Naspers, Richemont and BHP Billiton account for about 40% of the FTSE/JSE Top 40 index – there is still significant value in active investing.

With Naspers accounting for roughly 24% of the Top 40, a passive or exchange-traded fund (ETF) that tracks this index would invest almost a quarter of a client’s money in a single company.

“The biggest benefit from a South African point of view is your ability as an active fund manager to manage the risk component of a client’s investment by not having to put 24% of somebody’s money into one share. You can actively take a decision to have less money allocated to one share.”

Another benefit is the active manager’s ability to allocate a certain amount of money to different asset classes based on an individual’s investment goals, Sprong says.

“There hasn’t been a proven passive way of doing it.”

In the private wealth arena in particular, some clients are averse to investments in tobacco and alcohol shares (in some cases for moral or religious reasons), even despite the performance of companies like British American Tobacco and Anheuser Busch-InBev (SABMiller) over time. In such cases, constructing a bespoke portfolio around the client’s individual needs allows the manager to strip out certain investments.

Company directors, who may have a lot of share options in the companies they work for, may also prefer not to have additional exposure to their employer company or the sector in which it operates. An active decision would allow the manager to construct a portfolio that can reduce the risk for a particular client by not exposing them to that specific company or sector, Sprong adds.

It may be quite difficult to construct a portfolio for a client with very specific requirements by simply using a passive fund.

“If you’ve got a client that has got quite a high income requirement – maybe because they have retired and they need to live off an income – you can actively construct the share portfolio with great companies that offer a specific dividend yield that’s higher than what you would get from the market.”

But this doesn’t mean that it should be an either/or decision.

Sprong says to bring the overall cost of the portfolio down, it can make sense to complement the portfolio with an ETF. This is also true for relatively high-risk industries such as venture capital and biotechnology, which comprise hundreds of companies, and where it can be difficult to isolate a single investment.

“In those cases, it often might make sense to rather buy a passive fund so that you benefit from the industry but without taking the risk of actually trying to choose which is going to be the best company in that industry.”

Particularly in the private client world, a significant part of the value proposition of active management is the client relationship, he says.

“I really do think that people still want to be able to talk to a person at the end of the phone – especially when it comes to money.”

This is especially true as individuals approach retirement and need to make decisions about their life savings.

The manager’s ability to engage clients about stock selection and how a particular investment strategy will allow them the best possible opportunity to reach their investment goals can also provide comfort during times of volatility when they may want to change course.

Brought to you by Sasfin Wealth.