Comment on Tong Kooi Ong’s “Achilles heel” statement

It looks like someone else has also done a review of the unit trust industry (published on the same day as my review no less) and this is none other than Tong Kooi Ong, owner of The Edge newspapers, who gave the thumbs down to balanced funds in Malaysia and Singapore. This is inspiring me to also take a stab at the mammoth task of objectively assessing balanced funds sometime in the future.

I’ve admired TKO for a long time since he started The Edge business newspaper decades ago which is THE go-to business newspaper in Malaysia. The page-3 commentary on the weekly Edge reminds of the “leaders” section of The Economist but for Malaysia.

There was, however, a paragraph in the article which confused me a little:

“If you recall, I’ve discussed at length the risks posed by passive funds in their indiscriminate purchase of stocks chosen to replicate the index without regard for the actual facts or performance of a company. Their best feature — low fees — is also their Achilles heel. These risks will only grow as liquidity gradually reverses when the central bank steps back on stimulus”, Tong wrote.

I’m not sure what this means but is Tong saying “passive funds run the risk of underperforming”?

Underperforming what? He can’t be referring to active funds which he just dissed, so I’m assuming he is concerned about passive funds, which are based on indices, underperforming the market.

But hang on. Many passive funds’ indices are also market indices. Therefore following this line of logic and paraphrasing further, is Tong saying “the market runs the risk of underperforming the market”?

Which is why I’m confused.

People buy into passive index funds not only because they are low-cost but because people accept that market returns are good enough and that expensive active managers do a poor job of beating the market.

When compared to the market, a well-replicated index fund will just give market returns, so there is little chance of an under- or outperformance save for tracking errors

Tong also goes on to propose an answer for this apparent passive fund quandary:

“What would be a good strategy to minimise both fees and risks?

Specifically, can a simple robo investing strategy that picks stocks based on valuation or fundamental variables do better than actively managed funds that are staffed with well qualified professional managers and analysts?”

Actually, these stock-picking funds already exist in the form of the so-called smart beta ETFs which buy stocks according to a selection of parameters like value, balance sheet quality, momentum etc. But these funds may not come cheap as the algorithms still have to be paid for.

More importantly, we don’t know what investors’ flavour of the day is going to be, whether it’s value one day and momentum the next. The Wall Street Journal recently wrote about a recent study which highlighted that value lost out to momentum as a strategy in the tech era. So much for fundamental analysis.

We are also missing the very important asset allocation decision. Simply tweaking your split of safe to risky assets as a way to boost risk-returns may be better than looking into flavour-of-the-day strategies.

Eg. Say your current asset allocation is 60% stock index fund and 40% bond index fund. You now want higher risk-returns: you should first consider maybe a 70-30 stocks to bonds before a smart-beta strategy.

7 thoughts on “Comment on Tong Kooi Ong’s “Achilles heel” statement”

  1. Thanks Julian for this post. Here are some of my thoughts on the passive vs. active debate:
    1. Diversity amongst investors. I think advocates of passive investing (i.e. benchmark hugging via ETFs) need to be wary of killing the breadth and depth of the market. In the S&P 500, >20% of vols are traded by ETFs.And if this grow to a much larger proportion (which seems to be the trend), can you imagine how homogenous the market can become (worse still in the Malaysian market context)?

    Markets will then be subject to the vagaries of index providers e.g.. FTSE,MSCI and S&P. We surely can’t be buying a stock just because it’s a large market cap. Now, I know that it’s naive to think that markets will ever be perfectly homogenous hence; isn’t that notion itself a paradox to passive investing? The whole basis of passive investing is that markets are efficient. But if markets are always a tug of war between diverse groups of actors/investors with different risk appetites,mandates and biases; how can it ever be efficient? So the question here is – is passive investing really the best way forward for investors?My own thoughts on this is – not on a standalone basis. ETFs has its advantages of low cost but it should only be used as a tool to hedge, not to be followed wholeheartedly. For it to be effective, it still requires diversity in the market.

    2. The downside. If a passive fund loses 10% of investor’s money in a year is that ok because its benchmark is also down 10% in that year? This is where I think active Fund Managers have an important role to play. If they are not adding value by implementing proper risk management tools and rules, then they should have no business in managing money. That’s why we have “smart beta”.

    3. The outliers. I think the story of Warren Buffet’s illustration of investors from a particular village consistently outperforming is a well told story (refer to the foreword of Benjamin Graham’s Intelligent Investor). The fact that these fund managers exist shows that the efficient market hypothesis cannot be true. For mere mortals like us, I think a combination of active risk management + ETF investing = smart beta works. I.e. ETFs will be a useful asset class to hedge and trade, not to buy and hold forever.


  2. I recently berated a investment bank privately for giving me 0% in 3 years on my PRS ‘aggressive fund’. Its not the 0% that angered me, its the fact that those analysts and fund managers still took a management fee for basically eroding my capital (considering opportunity costs). If it was a robot charging me 0.1%, who cares? That’s the issue – fund managers who think they know, strike it lucky during a long bull run, and then rewrite excuses once the bears come rushing in. Malaysian investment management fees are super-high vs developed markets – and that needs to change ASAP. Regulators need to step in – I don’t see why PRS investments do not have ETFs on the list, they should, instead of lining the pockets of IBs.


  3. Julian,

    I think Tong was referring to the inability of passive funds to achieve Absolute returns when market is performing badly, unlike, for example, hedge funds, who can go short or private equity, who’s portfolio companies escape the vagaries of market sentiment or a very astute fund manager, who may have moved heavily into cash as the market reaches the end of a bull market.



    1. Returns are so highly correlated to the market, how do we establish a trust system that a certain system/fund manager can deliver absolute returns? I don’t think hedge funds are the answer for the masses.


  4. I dont think Tong said the passive fund will underperform. He simply when liquidity dries up and market enters a slump eg the Japan recession.

    Your ideas all assume that market crises can be solved by central bank money printing, which is true except for the Great D. Well there may be a future crisis when even the robo advisors cant figure out a solution.


    1. i don’t think robos or human advisors sell a one-size fits all solution, rather they are implementers of how much risk you want to take. You’re your own solution to how you should invest. Robos just try to automate human advisors by directing you to suitable assets. A robo or human advisor sells financial goals whereas a fund manager manages funds. There’s a subtle but important difference. a fund manager given too much discretion to predict the next crisis may be in a fix if some of their investors don’t want risk and others do.

      So if you’re afraid of a crisis, an advisor might say 1. history has shown that markets recover from crashes 2. If you can’t stomach a crisis, you have to invest in something else. A fund manager would say (today in Malaysia anyway): give me your money, let me handle it. And this may or may not be to the best interests of the investor.


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