French take to passive approach
The development of passive management in France is a topic that surfaces from time to time in discussions in the French financial press. Usually, the conclusions about the prospects for indexing in France are more or less positive.
A huge part of assets managed in France are invested in short-term instruments and French bonds. Nearly all the money market funds are indexed and we can consider that bond management as being either indexed or slightly enhanced. So the real question about the future development of indexed management really is only relevant in relation to equity management.
Since pensions funds are not significant in France as yet, the largest proportion of equity management can be found within Ucits funds. In April this year these came to Ffr344bn ($59bn), representing 11.8% of the Ffr2,928bn managed by the French industry, according to AFG-ASFFI figures.
Within this, our estimates are that the portion represented by strictly indexed fund and quantitatively managed funds amounts to approximately Ffr15bn-20bn. This clearly indicates that the development of indexed management is still at an early stage in the French market and that it is concentrated in the hands of a relatively few specialists.
Another viewpoint that can be explored is to look at the evolution of the requests for proposals" (RFPs) process in continental Europe. When the first researches using RFPs appeared in France at the end of the 1980s, the most important innovation was the use of a benchmark to evaluate the performance of the portfolio manager against a reference objective. The issue of volatility appeared and finally the tracking error. In some RFPs, issued for example by large European pension funds, the manager has to engage on a forecasted tracking error. In other words, he is not allowed to deviate from the characteristics of the benchmark for more than a fixed limit. If the tracking error is narrow, the manager will only use an indexed management approach.
We believe that this will be a strong trend that will evolve with the implementation of a pension fund system in France and the necessity to control the risk of a widely diversified portfolio.
Finally an important question should be raised: is indexed management a good solution as far as performance is concerned?
Performance figures have been compiled by Europerfomance for the the 10-year period to the end of 1996. It is generally accepted that French domestic portfolios outperform their benchmark. During this period, the 33 French equity Sicavs in existence before 1986 returned an average of 96.12%, as against 117.24% for the MSCI France with net dividend reinvested. Only nine of the 33 funds outperformed the MSCI index.
In the Japanese equity sector, the seven Sicavs then in existence returned an average of -9.55%, as against 13.27% for the MSCI Japan with net dividend reinvested, with only two funds beating the benchmark.
In the US equity Sicavs category, where seven funds existed in 1986, the average return was 115.02%, which compares with 211.09% for the MSCI USA net dividend reinvested, with none of the funds in this sector outperforming the index benchmark.
These figures speak for themselves: it is extremely difficult for an asset manager to beat an index on a long-term basis, especially outside the manager's country of origin.
Every time executives in charge of the asset allocation for pension funds are faced with this kind of result, they should think about indexing a portion of their portfolio. It seems they are beginning to do so. Jean Echiffre is with State Street Banque in Paris"