Assirt defends active fixed interest managers

Investors should not rule out active fixed interest managers despite recent studies, which highlight a supposed better performance by passive managers against the index as compared to their active counterparts.

According to a report by Assirt, while active management may have lost favour among some research houses and asset consultants, perceptions about active management in fixed interest could be misplaced.

The fixed interest environment is an increasingly difficult environment to achieve above index returns, Assirt says, especially when compared to that of 20 years ago.

However, in the past six years the bond market has changed dramatically, with corporate-issued bonds increasing its share of the market to almost a third today, from only three per cent in 1996.

The effect of the increase in corporate bonds, and therefore decrease in government issued bonds, has impacted on returns to the extent that in the government sector, excess return opportunities have decreased, while these opportunities have increased in the corporate sector. Overall, this represents a tighter market for managers to eke out returns in.

This environment is a competitive one and has squeezed the margins of out performance, making the higher-fee wielding active managers appear less attractive than passive managers.

But Assirt says there are a number of reasons why active managers should be considered in their proper light.

First, the performance of fixed interest managers should be considered in the context of the period they occur in, rather than purely on quantitative data available.

“Even with adequate data, we must make conclusions with great caution, realising the past is not always prologue to the future,” the report says.

On top of this, Assirt questions whether the median results of managers should be leapt upon as the criteria of comparing active versus passive managers, because “the medium assumes investors are happy with the median manager, not best of breed”.

Rather, Assirt says, upper quartile results are more meaningful measures of the degree to which active managers outperform the benchmarks.

“The question of whether to choose passive, passive enhanced or active fixed interest amounts to a question of risk tolerance,” the report says.

And given the bearish markets over the past two years, Assirt says the tight cluster of performance around the benchmark rather than above may suggest an unwillingness to pursue active risk strategies, rather than a ‘failure’ of active management.

Another area of contention about a comparison between active and passive manager results is that performance tends to be measured fairly frequently, on monthly, quarterly and annual bases. This doesn’t reflect the true picture of bonds being medium to long term instruments, which mature on average in three or more years, Assirt says.

“The reliance on past performance has economic consequences beyond fund flows. One is the impact of performance measurement on fund manager incentives.”

Assirt argues that active management ensures the local bond market remains liquid, and if active management suffers at the expense of the passive managers, then offshore investors will be more reluctant to deal in Australian dollar bonds if the liquidity is not there.

But Assirt concedes there is no denying that active managers do tend to charge higher fees, and if these are stripped out of the returns and there is only a benchmark-like figure, then there is little incentive to stick with active rather than passive.

“Assirt would welcome a review of some active fixed income managers whose fees appear too high (particularly retail) in light of their low ‘alpha’ generating abilities.”

However, the research house notes that with larger volume mandates, the fee structure generally falls considerably for wholesale active management.