Foreign funds’ appeal

Greek mutual fund investors continued to put more money into foreign stock and bond funds in October, confirming that a trend toward greater international portfolio diversification is under way. Yet, by all accounts, domestic financial institutions have not fully grasped this trend and continue to bet they will keep their clients satisfied by offering them a limited menu of mostly domestic mutual fund alternatives. Although there is no immediate threat, industry experts warn of potential danger ahead as some EU-based mutual fund companies turn their attention to smaller markets like Greece. The release of mutual fund data in October showed that some local mutual fund holders had injected some 127 million euros into foreign stock funds and smaller amounts in other funds, investing mostly in foreign stocks, bonds and money market instruments. At the same time, they pulled some 129 million euros out of domestic balanced funds, investing mostly in local equities and bonds, and 64 million euros from domestic bond funds. Smaller net inflows into foreign stocks and bonds in the 5-10-million-euro range were also observed in September. Of course, a similar pattern of inflows into mutual funds, investing mostly in foreign securities, has been in place for a number of months this year. Although it is too early to say whether it is the beginning of the «mega-switch» many pundits were predicting even before the introduction of euro coins and notes in 2001, it is perhaps indicative of an evolving trend. «More and more Greek investors understand they should not put all their eggs into one basket. So, they are willing to try something new, such as investing in foreign stock funds,» says a fund manager at a mutual fund management company (AEDAK) controlled by a state bank, who wants to stay anonymous. «The fact that foreign bourses have done well this year has increased their (foreign stock funds) appeal and has lured more local investors into buying some of these funds.» The large local bank groups have tried to satisfy this demand by selling their own existing foreign stock funds to clients or even creating new ones. There are problems with this approach, though. The typical foreign mutual fund of a Greek bank is very small in size. This means expenses are disproportionately high and it does not pay to have a dedicated fund manager. In turn, it means the bank’s AEDAK has two options. Either it has to ask the fund manager responsible for other domestic mutual funds to manage the foreign fund as well, or turn over the management of the foreign fund to a foreign asset management company. «If you go for the first choice, you know you will have a sub-optimal result in terms of performance because the fund manager cannot really do both, that is, manage the domestic and the foreign fund efficiently at the same time,» the fund manager said. «If you give it to a well-known foreign asset management company to manage, you will be told either to bring in more money or just close it down. The reason they ask for more money is because that way, they can achieve greater portfolio diversification by investing in more securities. The Greek AEDAK usually choose to keep them alive even if this translates into sub-optimal returns.» Interestingly enough, the average return on domestic stock funds stood at 17.06 percent year-to-end-October whereas the average return on foreign stock funds stood at 11.19 percent. Some banks try to meet the demand for foreign funds by entering into agreements with well-known foreign banks or investment houses to sell their mutual funds through their own distribution network in Greece. The agreement may cover the whole range of mutual funds bearing the name of the foreign investment house or may cover part of it. «In the first case, you have the whole foreign family of mutual funds but your sales force knows little about it so they put it on the shelf and if a client asks for it, they give it to him. In the second case, the salesmen know more about the funds but again there is no active selling,» adds another fund manager working for a private bank’s AEDAK. He adds there has to be the appropriate infrastructure in place and the sales force needs to be trained to be familiar with the new mutual funds. «You cannot proceed with the allocation of funds unless you have the investor’s profile. To do so, you need the appropriate software, which is part of the necessary infrastructure,» he said. Some local players have also contemplated the idea of the so-called «white label funds,» in which they mandate a foreign asset manager to create and administer a mutual fund which is sold under their name. Of course, the cost of creating their own fund this way is higher than distributing foreign funds under other names. It should also be noted that the appeal of foreign mutual funds, created and sold by foreign names, to Greek investors has been compromised by the 20 percent withholding tax on capital gains upon repatriation imposed by the State. But though it is not advertised, investors have found ways to avoid paying this tax. In addition to keeping the money in a foreign account, the local investor can ask the money transfer to go to a bank account he keeps at another bank. This way, it is up to him to declare the proceeds when he or she files for taxes. So, in reality, this 20 percent tax levy is being paid by very few investors. Undoubtedly, the inflows into foreign mutual funds in the last few months show that more and more local investors have started looking outside Greece to enhance the returns on their portfolios and spread the risk. Judging from what insiders say, Greek financial institutions have yet to form a thorough strategy to address the evolving situation. At this stage, they may not have to worry because the Greek market is small and large foreign players are still primarily interested in the large European markets. This will not last forever, though. Therefore, they had better do something about it now because it may be too late when the «foreigners are inside the walls.»