How to choose pooled funds

Question: I am choosing between two professionally managed funds to invest in for my family’s future.

All I have to go by are their historical performance numbers. What should I be looking for? —asked at “Ask a friend, ask Efren” free service available at www.personalfinance.ph and Facebook.

Answer: First, you need to understand what the numbers mean.

If you are looking at mutual fund returns, you are probably looking at the page www.pifa.com.ph/factsfignavps.asp. And if you are looking at unit investment trust funds, you are probably staring at www.uitf.com.ph/top-funds.php. For single pay variable unit-linked (VULs) insurance policies, you will have to get returns from the individual insurance companies selling such policies.

Performance numbers would be a good place to start. But you must be sure that you are comparing durians to durians. For example, the returns you will see for UITFs in the page earlier given are computed on a cumulative basis. This means that the returns are from simply dividing the current NAVPU by the base NAVPU and converting the answer to percent form.

The returns you will see for mutual funds in the page earlier cited are computed on an annual compounded basis. This means that after dividing the current NAVPS by the base NAVPS, the answer is first raised to 1 over the number of years covering the period under review before converting the answer to percent form. Unlike cumulative returns, annual compounded returns take into consideration the time it took to generate the returns.

The returns on single-pay VULs must be put on equal footing as those on UITFs and mutual funds because VULs have an insurance component. To be simple about it, you must take out the annual peso cost of insurance from the original VUL investment and then divide it into the current net asset value in computing the annual compounded return.

In computing returns in the three pooled funds just mentioned, you should factor in entry, switching and possible exit fees. You should also verify if returns were generated by one star fund manager or through an investment process that does not rely on just a few, the latter being the more acceptable generator of returns.

Also, ask for pooled funds’ risk-adjusted returns, which can be measured by the Treynor and Sharpe indices wherein the higher the ratio the more the funds are generating returns for each unit of risk that they are taking for you.

If possible, also ask for pooled funds’ Jensen index, which measures the return that the funds are generating in excess of what they should be generating taking into consideration the funds’ volatility relative to a benchmark index. And for index funds, ask for their tracking error relative to their respective benchmark index.

On top of comparing returns, you should also compare pooled funds’ after sales service in terms of the process and frequency in keeping you updated with your own investment (i.e. snail mail, SMS, email, online), investor briefings (e.g. public forum, fund fact sheets), compliance with stated investment objectives and risk as well as compliance with regulations, particularly with anti-money laundering.

Now if all of these are too complicated for you, use Google to ask the help of a Philippine-based financial adviser who has the proper training like a Registered Financial Planner or Associate Financial Planner. Their advice can help significantly reduce the risk in investing.