What are Managed Funds

You may have heard of Managed Funds previously, as they are a simple way to have a diversified portfolio which is easy to manage for first time investors. Also known as Collective Investment Schemes, Managed Funds pool the investment from various investors in a diversified and professionally managed portfolio of assets, which may include shares, property, infrastructure, private equity and alternative investments. The type of investment aim usually targeting a specific industry (e.g. Mining) or geographic region (e.g. South East Asia).

When you invest in a fund, you are issued with a number of “units” which are comparable to “shares”. In some cases, units can be worth as much as millions of dollars, or they are worth increments of $1,000. The unit price is based on the value of the total assets within the fund, and is valued on each business day. If the fund has a good day and goes up in value, so does your unit price, and if it loses value, then you also share in the loss.

Advantages & disadvantages of Managed Funds

The Good
The main advantages of a managed fund is its ability to reduce the investment risk by investing in various assets (diversification). The more you diversify, the lower your capital risk. Investors effectively hold a single investment, therefore reducing the administration burden of managing various investments. Also, some funds have periodic distributions from dividends received and also pass on imputation (tax) credits. The professional fund manager will have better access to information, able to enter into transactions which may not be available to individuals.

The Bad
The other factor which is important for first time investors are the fees involved. The operation of the fund will absorb the transaction fees involved with buying and selling the investments, thus the investor will not directly incur transaction costs (i.e. the buy and sell transaction costs in trading shares).

However, Managed Funds attract fees which are sometimes high if the fund does not perform well. Fees are usually structured so that the Fund Manager receives a fixed proportion of the income generated. This fee, also called the "management expense ratio" (MER) is paid to the fund manager even if the fund makes a loss. The typical MER is about 2% of your investment.

Although it’s important to look at fees by themselves, generally, funds should not be picked based on the fees. Establishing a strong investment objective and the level of risk you are comfortable taking. Some funds are low risk (which mean they invest in cash and government bonds) while others are highly aggressive (which mean high risk) with the spectrum of investments in between.

Another disadvantage is that when owning shares, investors gain the direct benefits of owning a part of the company, be it discounts in the company's products, the right to attend Annual General Meetings or vote on important matters. Once you purchase into a Managed Fund, the fund manager owns these rights. This is a reason why companies like to ensure fund managers are given access to top management for specific information needs. Also, with the current Mergers and Acquisition boom, fund managers are playing a greater role in the finance industry as their share holdings are usually substantial enough to swing outcomes in acquisitions.

Manage Fund Styles
There are usually two main investments styles and it comes down to the philosophies of individuals. Does the fund manager believe they know which investments will outperform, or do they believe that it is impossible to know which stocks will do well.

Passive investment is the defeatist version, since they believe you can not predict which investments will do well, these usually follow an index such as the ASX200 (the own equal amounts of every share on a particular index). This type of investment style is called "Index Fund". Most investors invest in passive funds to reap the rewards of diversification, which they can not achieve otherwise. One advantage of an Index Fund is the low MER fee, which is typically less than 1%.

The opposite investment style of Active Investment aims to outperform the market consistently as they believe they can see which companies or industries or geographies will out perform indexes or other benchmarks. This style uses Value Investing and is usually coupled with refining the investment to a specific investment class, which typically depends on size (small, medium and large cap investments are based on the market capitalisation), geographic location (Eastern Europe, China, and other high growth nations and regions are becoming more popular) and asset backed categories such as property, equity (shares) or bonds.