Keywords

1 Introduction

The performance of active mutual funds (MFs) has been a debated issue in the area of finance for a long time with no decisive conclusion. Several studies in this field have found that MFs outperformed their benchmarks, whereas other studies have found the opposite (Carhart, 1997; Malkiel, 1995). To measure MFs performance, academic studies as well as professional performance evaluators have employed different measures that compare the returns of these funds to the returns of a selected benchmark. The most widely used measures are CAPM, Sharpe, Treynor, Jensen, and M2. Kosowski (2011) studied the open-end US MFs performance during recessions and found that the negative return performance is attributable to the expansion and not to recession periods. Choudhary and Chawla (2014) used several measures to evaluate the performance of Indian equity funds and reported that they have outperformed the market.

MFs appeared in Saudi Arabia as a type of investment in 1979 when the country created the open-ended fund which was called “AlAhli Short Term Dollar Fund”. Ahmed & Soomro (2017) compared the performance of selected conventional funds and Islamic funds, and with a conclusion that both funds performed better than the market benchmark. Merdad, Hassan and Alhenawi (2010), applied the performance measures on Saudi MFs managed by HSBC, to find that Islamic funds underperformed the conventional funds during the full study period.

This study attempts to shed more light on the performance of Saudi MFs during the global financial crisis (GFC) as they are attractive source of investing. The study focused on measuring if the MFs perform similar to Saudi Market Index Tadawul, especially during a critical investment period.

2 Literature Review

Literatures on performance evaluation of portfolios are dated back to the 50’s, initiated by Markowitz (1952) who earned the credit of introducing the concept of evaluating risk/return trade-off. As further extension to Markowitz’s work, many performance evaluation measures were proposed. Tobin (1958) expended Markowitz’s work by adding the risk-free rate.

The Capital Asset Pricing Model (CAPM) developed by Sharpe (1964) as a basis for the minimum expectation of an investor who is seeking to evaluate a fund adjusted to market fluctuations.

Treynor (1965) created a new notion by putting a benchmark, to measure the return in light of the systematic risk. He focused on the relationship between return and systematic risk – above the risk-free rate. As further extension to Treynor’s work, Sharpe (1966) proposed a module incorporated the volatility of the fund’s return, where an investor receives reword per unit of increase in risk. In the late 60s, Jensen (1968) measured returns on a risk-adjusted basis in relation to a benchmark to gauge performance. His work determined the average return over or below (positive alpha/negative alpha respectively) the expectation calculated by the CAPM.

Theories kept developing, to make it easier to evaluate funds. In 1997, Modigliani and Modigliani developed a risk-adjusted performance measure, which also known as M2 as an alternative to Sharpe ratio and easier to investors to be understood when analyzing a fund as it expressed as a percentage return instead of return versus risk.

Ahmad and Alsharif (2019) concluded that Islamic mutual fund and conventional mutual funds in Saudi Arabia had almost similar performance on the basis of Treynor ratio and Jensen’s Alpha. However, Islamic funds performed better than their conventional counterpart under Sharpe ratio. Merdad and Hassan (2011), used a sample of 143 Saudi mutual funds. The study concluded that Islamic and conventional funds performed almost the same. Same results found when Ashraf (2013) reviewed the performance of Islamic mutual funds during the global economic crisis by using the CAPM regression and other models.

3 Data and Methodology

3.1 Data

Daily Net Asset Value (referred to as NAV) of Saudi open-ended equity funds were obtaining from Eikon database. It is worth noting that the study period was divided into three periods as shown in Table 1 below.

It was logical to choose the Saudi stock market index (referred to as Tadawul) as a benchmark. Data for the daily closing price of Tadawul were obtained from Bloomberg database.

The Saudi Arabia short-term interest rate of 3 months SIBOR (Saudi interbank offered rate) was selected to be the risk-free rate of returns, and was extracted from financial data website called Ceicdata.

The sampling processes excluded non-equity, not invest locally, and closed-end funds. Furthermore, the study did not take any Islamic fund or funds that have been created after or during the crisis. Therefore, out of 247 existing funds in Saudi Arabia, the study examined only 12 open-end funds of the category of locally-oriented equity funds with 73,526 observations.

Table 1. The Study Periods
Full size table

3.2 Methodology

To test the hypothesized impact of 2008/2009 financial crisis on MFs performance, this study applies ordinary least squared (OLS) regression analysis, and CAPM. measures of MFs performance like Sharpe, M2, Treynor and Information ratio are also applied.

Fund’s return in each period was calculated using the following formula:

$$ R = \frac{{P_{t + 1} - P_t }}{P_t }. $$
(1)

where, R is rate of return, Pt+1 is price in time t + 1 of the fund, and Pt is price of the fund at time t

CAPM provided the statement of the relationship of the expected premium on the selected funds and their systematic risk, which is presented by βeta (β). β Shows how the stock moves with the market. the closer the β to 1, the closer the movement of the fund to the market movement. CAPM has been used in many relative studies, such as in Connor & Korajczyk (1991), Bello (2008), and El-Masry and El-Mousallamy (2016), as follows:

$$ {\text{R}}_{\text{i}} = {\text{ R}}_{\text{f}} + \beta_{\text{i}} \left( {{\text{R}}_{\text{m}} - {\text{R}}_{\text{f}} } \right) + {\rm{\varepsilon }}_{\text{i}} $$
(2)

where Ri is expected return of the funds, Rf is the risk-free rate, βi is systematic risk of the fund industry’s return towards the benchmark, Rm is Tadawul expected return.

As an extension of CAPM, Jensen’s Alpha is calculated, as it will provide the excess return of the mutual funds industry, which will be seen when positive alpha is found, whenever Jensen’s alpha is positive, then the fund outperformed the benchmark, and it can be said that the fund’s manager has done some value addition, and vice versa.

Following Boudreaux et al. (2007), Hasan and Ahsan (2016), and Tripathy (2017), this study used Sharpe ratio as measure to test the performance of MFs. Sharpe ratio gives us the information about how much return an investor can get, given the level of risks that investor is willing to take. Sharpe ratio is calculated as:

$$ Sharpe\;ratio = \frac{(R_i - R_f )}{\sigma } $$
(3)

where Ri is return of the fund, Rf is risk-free rate of return and σ is standard deviation of the fund’s return

Furthermore, this study calculated M2 to determine how well the fund reward investors for their level of risk taken. The formula applying this measure is:

$$ { }m2 = Sharpe\;ratio\;X\;\sigma_{Benchmark} { } + R_f $$
(4)

where Rf is risk-free rate, σ is standard deviation of the benchmark

If the risk can be diversified away and investor is not diversifying, then it is his fault. By using β instead of \(\sigma\) the market will reward the investor for the systematic risk only (undiversifiable risk) through Treynor ratio which can be calculated as follows:

$$ Treynor\;ratio = \frac{(R_i - R_f )}{\beta } $$
(5)

where Ri is return of the fund, Rf is risk-free rate of return and β represents the systematic risk of the fund.

Information ratio (IR) will only be positive when the mutual fund outperforms the benchmark. IR is calculated as follows:

$$ IR = \frac{(R_i - R_m )}{{\sigma_{i - m} }} $$
(6)

where Ri is return of funds, Rm is return of benchmark, and σi-m is standard deviation of the difference between returns of the funds and the benchmark.

4 Empirical Results and Discussion

Table 2 presents some statistics extracted from OLS regressions. The low R-squared of the funds reflect the lack of relationship between the selected Saudi equity mutual funds and the benchmark, the variation in mutual funds return is not explained by the variation in Tadawul returns null hypothesis was that there is no relationship between the Saudi MF and Tadawul. While the alternative hypothesis stated that the independent variable (Tadawul’s return) did affect the funds’ returns. As the p-value of alpha is not significant, then there is no relationship between Saudi mutual funds’ return and Tadawul’s return, despite of the fact that these funds are consisted from equities registered in Tadawul itself..

Table 2. Summary Statistics of All Funds
Full size table

The CAPM model gives an estimate of what the return should have been, using beta. From Table 2, the average expected return from Saudi MFs should be 2.015 percent in the pre-crisis period, while it actually earned much lower than the expected with 0.072%. This expected return decreases to a 1.946 percent, then to 1.314 percent during, during and after crisis respectively. while in real market the funds’ return showed a loss of 0.104 percent, and a gain of 0.027 percent respectively. Over all, the funds underperformed the expectations.

Most of the funds and the market itself performed before the crisis better than after the crisis is over. The study showed two MFs were generating returns during the crisis, and collapsed after the crisis was over.

On average the funds performed better than market relative to each one’s total risk, as Sharpe ratio was higher than the market during and after the crisis. During the crisis Saudi Fransi Saudi Istithmar Equity Fund and Riyad Saudi Equity Fund kept rewarding their investors for the total risk of the funds, although a significant decline in the reward occurred after the crisis, which requires further investigation.

The MFs included in the analysis generated better returns before the crisis – as M2 equaled to 2.95 percent – than after the crisis – where the M2 was equal to 0.31 percent.

In general, based on Treynor ratio, Saudi MFs performed better than the market in the three periods. As shown in Table 3, the negative result during the crisis indicates that for every one percent of undiversified risk taken, the mutual funds lost 0.18 percent on average, and improved a lot after it was losses and earned 0.41 percent on average after the crisis. HSBC Saudi Equity Income Fund had the highest Treynor ratio compared to the market and other funds in the study. This fund maintained its position during the crisis. Investors should consider this fund in their investment decision.

The funds’ managers had the skills, abilities, and decisions to outperform Tadawul by 1.33 point before the crisis, while sharply dropped to 0.31 point during the crisis. However, this value improved slightly and increased to 0.34% after crisis. Saudi Fransi Saudi Istithmar Equity Fund had the higher IR during the crisis, which indicates that this fund had good manager who could manage the crisis with the higher returns

Table 3 Performance of the Saudi Mutual Funds Before, During and After the Crisis
Full size table

.

5 Conclusion

Although 2007/2008 crisis had impacted economic activities and financial markets, Riyad Saudi Equity Fund, and Saudi Fransi Saudi Istithmar Equity Fund provided their investors with positive return during the crisis. The diversified assets in these funds made them in better position during the crisis. Likewise, HSBC Saudi Equity Income Fund maintained the first position holding the highest Treynor ratio before and during the crisis, meaning that it’s manager could diversified the assets in the fund to gain the best benefit. Moreover, HSBC Saudi Equity Fund had also the highest IR ratio, Sharpe and M2 ratios compound with the lowest risk (σ). Its manager’s decisions, represented by the high IR ratio, led to high Sharpe, M2 and Treynor ratios after the crisis. its investors received the highest return (33.5% before the crisis, and 5.05% after the crisis) for the 1% extra volatility they endured for holding this fund. As risk and reward must be evaluated together when considering investment choices, HSBC Saudi Equity Fund’s investors had compensated the investors for the additional risk.

The main implication for Saudi investors as MFs is attractively offer a good return and perform better than the market. As for new investors who want to start investing in a fund with a good history during crises. For decision makers of HSBC Saudi Equity Fund to continue the way they manage the portfolio and make improvements where necessary. And for Riyad Saudi Equity Fund and Saudi Fransi Saudi Istithmar Equity Fund managers to find out the reasons for their superiority during the crisis period, and the relapse they experienced after the crisis.

The main limitations were, the sample size was limited to only 12 equity funds, as many mutual funds were closed and ended during the study period, which considered too small to provide conclusive evidence. Additionally, the transaction costs or taxation were not considered in the analysis. Future research can include more comprehensive data. It is also recommended future studies to examine the causes of anomalies in the results for HSBC Saudi Equity Income Fund performance before and during the crisis. It will worth investigating the factors that affect the performance of Saudi Arabia mutual funds including mutual funds industry, investment companies, or to the funds’ assets. Future studies may also link the mutual fund performance to investor’s behavior and attitude, innovation, business intelligence, or decision-making style. Finally, analyzing the rating of the mutual funds provide a wide scope for future research on MFs performance including Saudi Arabia.