Speaker 0:
Hello and welcome to this fun fit session. I'm joined today by Zia Parker, portfolio manager at the Old Mutual Investment Group. Welcome back, Zia

Speaker 1:
Hilo. And thanks for having me again.

Speaker 0:
So, yeah, there are two funds that you specifically want to highlight for this fund fit session specifically around indexation at Old Mutual. Perhaps you can take them, take us through them.

Speaker 1:
Right? So the two funds that I'll be highlighting today it's both falls within the fundamental index range.

Speaker 1:
The first one is the, um 40 fund, and that's a local South African index fund.

Speaker 1:
Second one is the Africa or World 3000 Index fund, which, uh, tracks a an index of developed and emerging market stocks. So these industries were developed by, uh, research affiliates back in 2005. And the intention with these indices were to develop indices that,

Speaker 1:
um, generated superior performance over time relative to active managers, but in a systematic and transparent and transparent manner and also at low cost.

Speaker 1:
So with smart Peter indices, they generally aim to talk towards, um, fundamental factors or or classic factor premiums that have shown to generate superior returns over time. Um, and these are brought into, uh, index construction by alternate waiting schemes.

Speaker 1:
So the fundamental indices they are designed to weight con constituents based on, uh, fundamental factors as opposed to market capitalization. And how they do this is by equally waiting across four factors. So these factors are port value, uh, its cash flow, sales and dividends, and

Speaker 1:
each, uh, stock within the index is scored on that manner and weighted accordingly. So at the first to market cap point, that index is, uh, in that sense.

Speaker 1:
And yeah, well, I think traditional market cap indices provide a good measure of, um, the investable market universe. I think they often tend to have inherent flaws, and some of those are often related to sector and stock specific exposure. So we've seen that play out in the South African context in the past. Um, two stocks that spring to mind on as I mean, it was often around 30% of certain indices

Speaker 1:
and Richmond in the recent past, which has been like a quarter of the index. So, uh, the the Rafi fundamental indices to have inherent concentration, uh, limits. Um, in the RE 40 K, it's got a 10% stock level capping. And in the all world, it's got a sector and con and country concentration limits. So

Speaker 1:
these are certain of the rules that are built into the index construction methodologies that aim to overcome these these, uh, inherent issues.

Speaker 0:
Thank you. So what role, then, would these index portfolios or these indices then play in a client's

Speaker 1:
portfolio? I mean, if I think about it, there's probably three, general ways that clients can allocate to these funds. Number one would be using it as a core allocation within an equity folding block.

Speaker 1:
So, for example, in a South African equity component, you could use a 40 as your core allocation. And then in a global equity context, you could use a or as a core allocation. So because these indices are broad market, they do give you a good exposure to the entire investment universe. Um, so that's the first use case. The second use case, uh, could be as a manner to, uh,

Speaker 1:
to access a factor or to access a factor. Premium? Um, so these indices are are value biassed

Speaker 1:
and clients could look at the overall portfolio and see that they are perhaps short in terms of exposure to the to the value premium or or to the value factor, and accessing these funds could be a way to plug that gap. So we often refer to that as a as a completion portfolio where clients are looking to fill in a gap in their, uh, broader exposures.

Speaker 1:
And then, thirdly, I think this fund can play a good diversifying role in in a general portfolio context. So it's got a very different risk return profile to many other funds, uh, out there, and clients could use it to diversify away, um, certain idiosyncratic exposures. And with that look to increase their risk and return, um, or to increase their return potential while reducing risk, uh, in the overall portfolio.

Speaker 0:
Zia then to close up the session briefly. What What other considerations should, um, advisor and clients take into consideration when they, um, look to allocate to these index funds?

Speaker 1:
So I think I touched on a key one, which is basically just understanding that you are getting specific factor exposures from these funds.

Speaker 1:
So clients need to understand that these are value biassed indices and will give you value biassed exposures. So looking at it in the overall portfolio context and just understanding how that combines with existing funds, um yeah, is is part of the initial considerations, I think. Secondly, the macroeconomic environment will be something that needs to be taken account of. So

Speaker 1:
I think this past decade and a half since the global financial crisis has been a very different market environment to what we've seen in the past.

Speaker 1:
Um, it's also lent wealth to to the growth style of investing. So we've seen this value with versus growth sort of seesaw in the past and post global financial crisis with, uh, ultra low interest rates in developed markets. Um, that's really aided grow stocks. And with all the tech stocks that we've seen rally over the past, value has really underperformed.

Speaker 1:
Um, so if one looks at the historical performance of of the index funds,

Speaker 1:
I think it's easy to to get sidetracked by comparing to market cap weed indices, which are generally growth biassed and momentum driven. So I think that's just one thing to to bear in mind is that the environment going forward may be completely different. Um, but if one looks at Ray's performance relative to a value based benchmark. Then you really start seeing the benefits of the ray Fundamental,

Speaker 1:
um, Index construction. So that's a sec. The second thing I'd like to point out is just being cognizant of the market environment and how that may play out in terms of growth versus value.

Speaker 1:
And I think, yeah, finally, just to conclude, Um,

Speaker 1:
yeah, I mean the the Rafi Fundamental indices have shown to do relatively well in periods of high inflation.

Speaker 1:
And in the US, the the have gone back to the past, uh, 19 seventies as well, which were periods of high inflation. And I, as a strategy, has done well in those periods.

Speaker 1:
And it's also done well in periods of recession, uh, and coming out of of recession. So I think with the current volatility in markets, um, higher for longer interest rates expected and potential slowdown in various economies globally, I think the strategy is really well placed to to benefit from this, uh, changing narrative.

Speaker 0:
Zia. Thank you very much for taking us through your front fit on the index funds.

Speaker 1:
Thanks so much, Chloe. Always a pleasure