In many ways, Dimensional Fund Advisors (DFA) Australia is a reluctant conqueror.
After only a year in the Australian market, the group has already hit the top of the performance ladder. Its value fund was listed by InTech as the top Australian equities performer for the year to May 31, filing a 28 per cent return.
But DFA Australia chief operating officer Andrew Cain says the success is a double-edged sword for the group.
“We never try to hit top spot. It causes as many problems as it provides benefits,” he says.
“We are not looking for investors who are chasing returns. Hot money usually flows out as fast as it comes in.”
Cain feels DFA Australia is misunderstood. For starters, the high flying Dimensional Australian Value Trust is not its flagship fund. DFA Australia has no flagship funds. It offers three Australian equities funds (among nine funds offered in Australia); all with quite different investment strategies. Cain says its value fund is simply one of those funds.
And he is the first to point out that value funds have produced startling returns over the past year. As anyone monitoring the performance tables would know, the top performers have been the likes of Maple-Brown Abbott, Tyndall and Perpetual over the past year. But those same observers would be able to tell you that those managers had an extremely tough time during the growth run to April last year when they were among the bottom feeders.
So while the value fund is grabbing headlines, it is no more important to DFA Australia than its Australian large company fund and its Australian small company fund. DFA Australia is about managing a number of funds with diverse strategies but sticking to these strategies like glue.
For instance, people often talk about Maple-Brown Abbott as a deep-value fund manager. Cain says Dimensional’s value fund goes much further to deep value than any other manager, Maple-Brown Abbott included.
Cain is not shy about admitting to the fund holding shares in HIH just before it went into receivership. He also dispassionately admits to missing the huge run by News Corp last year which hit a number of other managers last year, including Macquarie’s active Australian equities funds.
But he is quick to point out that HIH was just one small holding in a portfolio of more than 130 stocks and News Corp was not the only stock to run last year.
“In a portfolio of that size and diversification, a few stocks crashing and burning will be outweighed by others performing well,” he says.
If you think this is a dispassionate, scientific view of the market, you are starting to understand the philosophy behind Dimensional’s investment strategy. Cain does not divide the funds management market into value vs growth or small cap vs large cap bias or passive vs active, but rather on fundamental views of the markets, whether shares or fixed interest.
“There are two types of investors,” Cain says. “Those who believe markets are rational and those who believe markets are irrational.”
Dimensional sits comfortably in the rational camp. The group believes picking stocks is a waste of time and money. It doesn’t have a team of analysts running around the country kicking the tyres of listed companies looking for quality stocks which have been mis-priced by the market.
Predicting price movements of individual stocks or the market is impossible under DFA’s rational market philosophy which dictates that price movements are random. All stocks are correctly priced and all have a risk element embedded in their price.
DFA’s value fund operates strictly by selecting what it calls “distressed stocks”. This doesn’t mean buying into companies before they go belly-up, although sometimes it can, but buying stocks which the rational market has classified as risky. The primary ratio used to uncover those stocks is book to market (ie the book value of the company divided by its market capitalisation).
The philosophy may sound academic because in many ways it is. The founders of the business in the US, David Booth and Rex Sinquefield, have both won the prestigious Graham and Dodd financial analyst prize. Sinquefield was also one of the pioneers of index funds in the US which is recognised as one of the best examples of the application of modern finance theory. The CVs of the DFA’s board of directors in the US have a veritable alphabet of academic acronyms including two PhDs and a sea of MBAs.
DFA has been active in the Australian market for about seven years but only last year opened up its funds to Australian investors. The retail distribution strategy it has developed for the Australian market is as scientific as its investment philosophy.
DFA does not want to be recommended by every financial planner in the land. And it is unlikely to have broad appeal given its refusal to pay commissions and its $100,000 minimum investment.
Instead, the group is concentrating on fee-for-service advisers who understand its investment philosophy. Cain says he cautions advisers to only put a small percentage of a client’s portfolio into any one DFA fund.
“Other managers are saying put all your Australian or global equities money with us. We are saying it is prudent to diversify among a number of styles. If an adviser recommends a client puts 30 per cent into the value fund, for example, we would say that is being extremely aggressive,” he says.
