Like any team, funds are only as good as the people behind them: the fund managers. Portfolio managers are the people who decide what to buy and what to sell, and when. Because the fund manager is the person who is most responsible for a fund's performance,knowing who's calling the shots and for how long is key to selecting the right funds.
Different Manager Structures
Before discussing further why managers are important, let's step back and examine the two ways in which funds can be managed.
First, there's the single-manager approach. In this setup, there's one person who takes primary responsibility for making the fund's investment decisions. The manager doesn't do all the research, trading and decision making without help from others, though; analysts will feed the manager plenty of stock ideas. The single manager is sole decision maker, not the sole idea generator.
Second, there's the management team, popularised by families such as Aberdeen. Here, two or more people work together to choose stocks. The level of one team member's involvement or responsibilities can be tough to gauge, though. Sometimes there's a lead manager who is the final arbiter, while other times it is more of a democracy.
Why Managers Matter
We think it is always important to know who a fund's manager is, whether the fund is run by one person or a whole team. Equally important is how long the person or team has been running the fund. Make sure that the manager who built the majority of the fund's record is still the one in charge. Otherwise, you may be in for a surprise.
Take Fidelity American. In June 2002, longtime manager John Muresianu left the fund. Muresianu had compiled an excellent record since taking over in December 1997: he generated over 28% annualised growth over his tenure, compared with the Morningstar US Large-Cap Growth equity fund average peer’s return of 5% annualised. The fund wasn't the same after Muresianu left and it saw several managers pass through at the helm over the next five years. Investors who bought the fund based on its long-term record, but who didn't realise the person who built that record had moved on, were sorely disappointed.
Of course, not every manager change leads to a performance falloff. When legendary investor Michael Thomas retired from Martin Currie Japan in early 2007, many investors might have worried that the fund would come up short under new management. So far, though, things have gone investors' way. Anecdotally, our analysts believe there are better Japan equity funds out there, however.
Where Managers Matter Most — and Least
If you're looking for new investments and find two equally good funds, choose the one with the more experienced manager. But if the manager of a fund you already own jumps ship, it's not always best to sell the fund immediately. The new manager may do just as well as the old.
Some types of funds are simply less affected by manager changes than others. Here are some examples:
Index funds: Managers of index funds are not actively choosing stocks, but simply mimicking a benchmark by owning the same stocks in the same proportion. As such, manager changes at index funds are less important than manager changes at actively managed funds.
Funds in categories with modest return ranges: Managing a sterling money market fund is a game of basis points (a basis point is one hundredth of a percentage point.) In other words, because such funds offer much lower return potential, the difference in return between a great and an awful money market fund is a matter of a handful of percentage points. So if your money market fund manager leaves, it's probably not a big deal.
Funds from families with strong benches: When a fund manager leaves Franklin Templeton, we don't always get very upset. Why? Because Franklin Templeton has many talented managers and analysts who can pick up the slack. Manager changes aren't quite as troubling if you're talking about a fund from a family, such as Franklin Templeton, with a number of good funds and a strong farm team.
Funds run by teams: While this isn't always the case, you'll often find that funds run by teams are less affected by manager changes than funds run by only one person. But that's only true if the fund really was run in a team fashion, in which decisions were truly democratic.
Conversely, then, manager changes can be a crushing blow to other types of funds. Investors who disregard managers and manager tenures in the following types of funds may find themselves much worse off than a disappointed sports fan:
1. One-manager funds;
2. Funds run by very active managers who've proved to be adept stock-pickers or traders;
3. Good funds from families that aren't strong overall, or from fund families that lack other strong funds with a similar investment style;
4. Funds in such categories as small growth or emerging markets, where the range of possible returns is very wide.
When making investment decisions, we believe qualitative analysis such as knowing the background of your fund manager is as important as the quantitative performance. In Morningstar, fund research analysts use a five pillar analytical framework that considersthe following key areas: People, Process, Parent, Performance, and Price. Our analysts evaluate each of these areas to arrive at the Morningstar Analyst Rating for funds globally.
You can click here to read our Morningstar Global Fund Research Report.
