choosing a keren hishtalmut

I’ll never forget the first time I was asked by an employer about choosing a keren hishtalmut.  When asked to choose my keren, my response was “I’ll just go with whatever everyone else is choosing.”  The bookkeeper told me that he could not divulge such information and that I had to find out for myself which one I wanted and get back to him.  In retrospect I cannot believe I said such a stupid thing.  I mean, I am supposed to be an MBA and I had no idea how to choose a simple mutual fund.  My frustration led me to finally figure out how to select mutual funds (particularly for a keren hishtalmut) and rediscover a lot of finance that I never knew I could enjoy.  This post is the result of that journey.

Some history:  Years ago, a keren hishtalmut was given as a benefit to an employee so that he or she could accumulate money in order to undergo training in his or her respective field.  Somehow, the learning part got thrown out and it became a benefit that helps Israelis save for the short term.  This is not a mandatory benefit, like a pension, but a optional one.  Usually, for those who receive it, the employee pays 2.5% of his base salary and the employer pays in 7.5% of the base salary, all of which is put into a kupat gemel (providence fund) which opens once every 6 years.

Legal warning (I’ve been doing a lot of these recently).  I do not advocate any particular mutual fund, nor should anything I am about to write be taken as any sort of financial advice for investing in anything in particular.  My goal is to explain how the providence funds are measured – which one(s) you choose should be based on your own understanding of the funds and your attitude toward risk and liquidity.  Finally, I am not perfect; if you find any errors in what I write below, please tell me and I will correct my information.

Ok, now that that is out of the way, let’s get down to business. First off, what is a kupat gemel (providence fund)?

Let’s say you have ₪ 100 to loan someone.  Now, for ₪ 100 you will get very little interest, let’s say 2%.  But if you had ₪ 1000, then you would get 5%.  So you find 9 friends, each of whom would chip in ₪ 100, and all of you pool your money in order to get 5% interest on the loan.  You all mutually funded a loan, and you all reap the rewards (an extra 3%).  This is an example of a mutual fund – several people pooling their money to get better returns on an investment or a combination of investments.  A providence fund is the same as a mutual fund except you can only access it when you reach a certain age.  Most of the time you can only access it at retirement age, but for a keren hishtalmut it is once every 6 years.

The site that measures providence funds in Israel is called gemelnet.  This site is run by the ministry of finance in order to give accurate information about providence funds.  Begin by entering the site.  I’m waiting…

Okay, now you see a screen that will allow you to select what you want to compare.  In our case, we will select all of the kranot hishtalmut.  Next, select the purple button that reads “hatzag doch” in the bottom left hand corner of the screen.  Wait for the new page to load.  Now click on the button that says “Excel” on the right side, across from the “hatzag doch” button.  Save the excel file to your desktop and close the internet browser.

Now open the excel file.  You should see the following columns:

A – this is the reference number within gemelnet for the providence fund

B – the name of the providence fund

C – the period we are reviewing in this document.  Because we did not change the setting on the original web page, this file tells us how well the funds did for the last 12 months

D – this is the return (interest earned) on the fund during the period we requested – including compound interest.

E – the average annual rate of return on the fund over the last 3 years

F – the average annual rate of return on the fund over the last 5 years

G – sharpe ratio – this tells us how much of the return on investment was from risk and how much was from management of risk.  The higher the number, the more the return is a result of risk management, the lower the number, the more it is a result or risk.  If a fund has a huge return on investment, but a low sharpe ratio, then it is probably very risky.  On the other hand, if a fund has a low return on investment, but a high sharpe ratio, then maybe it is too conservative.  If the return is high and so is the sharpe, then it looks like a good deal (but be warned, the sharpe ratio is not perfect.  This article in wikipedia deals with the strengths and weaknesses of using this ratio.) According to the file I downloaded today, the average sharpe ratio was .49.  This number really reflects your comfort with risk, so educate yourself and decide what level of risk management is too little for you to withstand and do not choose anything below what you are willing to live with.

H – finance fee – how much of your interest you have to pay to the providence fund provider.

I – how much money is in the fund, or market capitalization – in theory, a huge fund is a stable place to keep your money.  I say “in theory”, because I was not born yesterday.  Sometimes managers of big funds make stupid mistakes.  But if all the other numbers look right, this number could be a measure of stability.  The larger funds are called large cap(italization)  or “blue chip,” named for the most expensive chip in a poker game.  Medium sized funds are called mid-cap, and the little funds are called small cap.  There is no technical cutoff for these, and if there is, it is different in Israel, where the market is much smaller.  For our purposes, I would say that anything over a billion is large-cap, anything over 400 million is a mid-cap and anything less is small-cap.  We’ll get to where this applies later in the article.

J – net accumulation – this tells us how much money has either gone into or left the fund during the period we are reviewing.  Money goes in when (1) people put in more money and (2) the funds gains value.  Money goes out when (1) people take out their money (2) the funds lose value and (3) finance charges are taken by the fund managers.  This number should look normal compared to the market cap.  If a fund is loosing ₪ 100 million, but it is an ₪ 8 billion fund, then it could just be that some people took out their savings the past month.  Look at this number along with the return on investment numbers to try to figure out why the money is going in or out.  If you notice everyone is jumping ship on a fund, ask why.  It doesn’t mean you should leave the fund, but it could be a red flag.  Alternatively, if this number is huge, see why it is doing so well – it could be a sign of a successful management, but it could also be the result of a bunch of people blindly put their money there because someone mentioned the fund in an article in the paper.

K – liquidity index – When a fund invests in less liquid assets, it is harder to value the assets exactly.  This means that the information about the company’s profit (used for the interest rates, sharpe etc) may not be as accurate.  Ideally this number should be as high as possible.  If you want to be a real pessimist, then this number could be taken as a margin of error for the reported income.  Realistically, the margin of error is usually much less.

L – the name of the fund again – because this file has so many columns that you may forget what fund you’re looking at as you go from column to column.

So, how did I choose my keren?  For starters, I need my money, so I am not ready to experiment with a new fund; I like to see a proven track record.  Whatever does not have a track record of 5 years was eliminated.  This excel file is a bit messed up, so let me explain how to do this.  (1) Add a line above the first providence fund (below the titles for the columns) and then (2) highlight all of the 5 year averages and choose “sort descending” (there is a problem with the file because even then, it will sort everything except the first line.  You’ll just have to live with it and look at that fund separately).  Whatever does not have a number for a five year average is eliminated.  In fact, whatever was less than the market average for a five year return is eliminated as well. If you’re wondering – I do not do the same with the one year average, so as to not discount conservative funds.  Some of the more conservative funds with more risk management (usually with a higher sharpe), did not go on such a roller coaster ride these past few years. Since they did not go down so much in 2008, they did not go up as much this past year. Many of the funds that made over 30% this past year, started with -15% and then made it to a normal 10 – 15% return; whereas some more stable funds began at 12% and made it to 15%, so their return for the past year is not as high.  (This is one of many examples of why choosing a providence fund must also take into account when you are doing it.)

Next I checked the sharpe ratio.  In the current economic climate, I am personally am okay with anything above .5 (you may not be – remember, you are risking your money here), so I sorted again and deleted any funds with a sharpe ratio less than .5.  I am now down to around 40 funds.  Not bad after starting off with several hundreds.

Next was the market cap.  I know, it may not be the greatest of ideas, but I am fairly conservative and will not go for anything less than a mid-cap.  Now I am down to 20.

Now I have to analyze until I find what is right for me.  I check the net accumulation.  Any red flags?  Anything stand out for the good?  I analyze why.  Next, I go to the first columns and compare the 1, 3, and 5 year averages with the sharpe index to learn the story of each one.  Some have too much risk and not enough management to justify it.  Some are too conservative; I am willing to take the ride, even if it is only the teacup and not the roller coaster.  In the end, I am down to about 4 or 5 funds.  In this case, I have to either find a way to look into the companies further (who has less finance fees, which name sounds nicer, which fund managers brake for small animals etc.) or just pick one.  No fund is *perfect*, but if it fits the bill and is what I am looking for, then I am comfortable with the decision.  Remember, decisions are judged on the knowledge one has at the time.  Even if it does not turn out well, it is still the right decision.

So, there you have it.  This is my plan; you may disagree.  You may only stick with a sharpe of .7, or not eliminate anything without a 5 year track record.  the most important thing is that you have a plan that you understand and agree with. Remember, never take financial advice blindly; always make sure you understand where your money is.  No one cares about your money more than you.