Wednesday, May 14, 2008

Avoid Past Performance Trap

Through out my career with Unit Trust, I found that there are two mistakes commonly made by investors in unit trusts.

The first is choosing a fund based purely on its past performance. We should always bare in our minds that past performance did not guaranteed future performance.

The other mistake often made by investors is to invest in four or five different funds- a great idea for diversification, but not if they all invest in the same type of shares.

In any market worldwide different types of shares perform best at different stages of the economic cycle.

It's important that in a long-term investment such as unit trusts you diversify into funds that invest in different types of shares.

Here are smoe pointer we should take a look rather than base our decision solely on fund past performance.

The fund manager's style and philosophy. You should have a basic understanding of the fund manager's investment style and philosophy.

This includes aspects such as:

  • Are they stock pickers or do they take a view on economic indicators and then buy into specific market sectors?
  • Are they aggressive, neutral or conservative investors?
  • Does the manager take full responsibility for the fund or is it a collective view by the investment house?

Once you have an idea of the fund manager's style, you can see if it fits your own risk profile.The shares the fund invests in. Determine the type of shares in which the fund is allowed to invest in terms of the fund mandate and its objective. Are they blue chip, middle company shares or small company shares? The sector in which the fund is categorized is not always an accurate indicator of the fund's assets.

Once you have determined all this, you can start creating your portfolio of funds. This is the relatively easy part, because you have done all the leg work already.

My personal opinion is to choose two or three fund managers whose investment philosophy matches yours. Then select five or six funds from the different categories of funds.