Active fund management is under scrutiny like never before. Indeed, seldom does a day now go by without someone – or some organisation – providing research damning the industry for poor performance, under-performance or debilitating charges.
Change, I feel, is a coming.
Morningstar is the latest organisation to pour scorn on the assertion that active fund managers (living breathing ones rather than robots) can justify premium ongoing charges. In fairness, Morningstar has long argued that a fund’s expense ratio is the best predictor of future investment returns. In simple terms, it believes that the cheaper a fund is, the greater chance it has of delivering superior performance.
Its latest analysis supports this conclusion. Scrutinising data for US equity funds over the five years to the end of December 2015, it says that the funds with the lowest expense ratios were three times more likely to generate a high ‘total-return success rate’ (deliver superior performance) than the most expensive. Analysis of other equity classes delivered similar results.
“The expense ratio is the most proven predictor of future fund returns,” said Russel Kinnel, author of the report. “That’s not to say investors should only consider cost when selecting a fund. There are many other variables, but investors should make expense ratios their first or second screen.”
Peter Kraus, chief executive of New York asset manager AllianceBernstein, has also had his say on active fund management. Although his comments were made about the US mutual funds industry, they apply equally to Blighty’s fund management industry.
Speaking to the Financial Times, he said there was a ‘scale problem in the industry’. Funds that reach a certain size, he said, become different investment animals, no longer run to outperform a chosen benchmark but instead managed not to underperform.
In other words, they become less aggressive and more defensive, more akin to closet index trackers. It is a problem that the Financial Conduct Authority has already identified in the UK fund management industry – and is keen to address.
Interestingly, Mr Kraus went on to say that he was perturbed by the amount of money flooding into exchange traded funds, stating: “There is probably too much money in the world today for active. But people are making the illogical leap that they should put all their money into passives. If people realised the risks around exchange traded funds, the behaviour would be much more moderate.”
With this focus on the value of active fund management very much in mind, I recently spent an hour in the splendid company of Rob Burdett and Gary Potter, who have just celebrated 20 years running money on a multi-fund (fund of funds) basis.
Working for a variety of investment houses along the way – Rothschild Asset Management, Credit Suisse, Thames River and now BMO Global Asset Management – Burdett and Potter estimate that they and their team have conducted more than 10,000 fund manager meetings, attended more than 500 UK investment conferences and invested £12bn in funds.